[Senate Hearing 110-286]
[From the U.S. Government Publishing Office]


                                                        S. Hrg. 110-286
 
   SARBANES-OXLEY AND SMALL BUSINESS: ADDRESSING PROPOSED REGULATORY 
              CHANGES AND THEIR IMPACT ON CAPITAL MARKETS

=======================================================================



                                HEARING

                               BEFORE THE

                      COMMITTEE ON SMALL BUSINESS
                          AND ENTREPRENEURSHIP



                          UNITED STATES SENATE

                       ONE HUNDRED TENTH CONGRESS

                             FIRST SESSION

                               __________

                             April 18, 2007

                               __________

      Printed for the use of the Committee on Small Business and 
                            Entrepreneurship


 Available via the World Wide Web: http://www.access.gpo/gov/congress/
                                 senate
            COMMITTEE ON SMALL BUSINESS AND ENTREPRENEURSHIP



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                       ONE HUNDRED TENTH CONGRESS

                             FIRST SESSION

                 JOHN F. KERRY, Massachusetts, Chairman
CARL LEVIN, Michigan                 OLYMPIA J. SNOWE, Maine
TOM HARKIN, Iowa                     CHRISTOPHER S. BOND, Missouri
JOSEPH I. LIEBERMAN, Connecticut     NORMAN COLEMAN, Minnesota
MARY LANDRIEU, Louisiana             DAVID VITTER, Louisiana
MARIA CANTWELL, Washington           ELIZABETH DOLE, North Carolina
EVAN BAYH, Indiana                   JOHN THUNE, South Dakota
MARK PRYOR, Arkansas                 BOB CORKER, Tennessee
BENJAMIN L. CARDIN, Maryland         MICHAEL B. ENZI, Wyoming
JON TESTER, Montana                  JOHNNY ISAKSON, Georgia

                 Naomi Baum, Democratic Staff Director
                Wallace Hsueh, Republican Staff Director




                            C O N T E N T S

                              ----------                              

                                                                   Page

                           Opening Statements

Kerry, The Honorable John F., Chairman, Committee on Small 
  Business and Entrepreneurship, and a United States Senator from 
  Massachusetts..................................................     1
Coleman, The Honorable Norm, a United States Senator from 
  Minnesota......................................................     3
Tester, The Honorable Jon, a United States Senator from Montana..     4
Corker, The Honorable Bob, a United States Senator from Tennessee     4
Snowe, The Honorable Olympia J., a United States Senator from 
  Maine..........................................................    38

                           Witness Testimony

Cox, The Honorable Christopher, Chairman, U.S. Securities and 
  Exchange Commission............................................     4
Olson, The Honorable Mark W., Chairman, Public Companies 
  Accounting Oversight Board.....................................    18
Venables, Thomas, President and Chief Executive Officer, Benjamin 
  Franklin Bank, on behalf of the American Bankers Association...    62
Wasielewski, Richard, Vice president and Chief Financial Officer, 
  Nortech Systems, Inc...........................................    70
Piche, Joseph, Chief Executive Officer and Founder, Eikos, Inc...    74

          Alphabetical Listing and Appendix Material Submitted

Coleman, The Honorable
    Opening Statement............................................     3
    Prepared statement...........................................    49
Corker, The Honorable Bob
    Opening Statement............................................     4
Cox, The Honorable Christopher
    Opening Statement............................................     4
    Prepared statement...........................................     9
    xlResponses to post-hearing questions from:..................
        Senator Kerry............................................    92
        Senator Snowe............................................    95
        Senator Pryor............................................   106
        Senator Enzi.............................................   109
    Letter to Senator Kerry......................................   130
Enzi, The Honorable Michael B.
    Prepared statement...........................................   134
    Post-hearing questions posed to:
        SEC Chairman Christopher Cox.............................   109
        PCAOB Chairman Olson.....................................   121
Kerry, The Honorable John
    Opening Statement............................................     1
    Post-hearing questions posed to:
        SEC Chairman Christopher Cox.............................    92
        PCAOB Chairman Olson.....................................   113
    Letter to Chairmen Cox and Olson.............................   126
Olson, The Honorable Mark W.
    Testimony....................................................    18
    Prepared statement...........................................    21
    xlResponses to post-hearing questions from:..................
        Chairman Kerry...........................................   113
        Senator Snowe............................................   116
        Senator Pryor............................................   119
        Senator Enzi.............................................   121
    Letter to Senator Kerry......................................   128
Piche, Joseph
    Testimony....................................................    74
    Prepared statement...........................................    77
    Responses to post-hearing questions from Senator Pryor.......   124
Pryor, The Honorable Mark L.
    Post-hearing questions posed to:
        SEC Chairman Cox.........................................   106
        PCAOB Chairman Olson.....................................   119
        Richard Wasielewski......................................   124
        Joseph Piche.............................................   124
Snowe, The Honorable Olympia J.
    Opening statement............................................    38
    Prepared statement...........................................    39
    Post-hearing questions posed to:
        SEC Chairman Cox.........................................    95
        PCAOB Chairman Olson.....................................   116
    Letter to Chairmen Cox and Olson.............................   128
Tester, The Honorable Jon
    Opening Statement............................................     4
Venables, Thomas
    Testimony....................................................    62
    Prepared statement...........................................    65
Wasielewski, Richard
    Testimony....................................................    70
    Prepared statement...........................................    72
    Responses to post-hearing questions from Senator Pryor.......   124

                        Comments for the Record

Enzi, The Honorable Michael B., a U.S. Senator from Wyoming, 
  prepared statement.............................................   134
Sullivan, The Honorable Thomas M., Chief Counsel for Advocacy, 
  U.S. Small Business Administration, prepared statement.........   137
Leahey, Mark B., Esq., Executive Director, Medical Device 
  Manufacturers Association, prepared statement..................   151
Independent Community Bankers of America, prepared statement.....   156


                   SARBANES-OXLEY AND SMALL BUSINESS:
  ADDRESSING PROPOSED REGULATORY CHANGES AND THEIR IMPACT ON CAPITAL 
                                MARKETS

                              ----------                              


                       WEDNESDAY, APRIL 18, 2007

                      United States Senate,
                    Committee on Small Business and
                                          Entrepreneurship,
                                                   Washington, D.C.
    The Committee met, pursuant to notice, at 10:30 a.m., in 
room 428-A, Russell Senate Office Building, Hon. John F. Kerry, 
Chairman of the Committee, presiding.
    Present: Senators Kerry, Bayh, Pryor, Tester, Snowe, 
Coleman, Thune, and Corker.

  OPENING STATEMENT OF THE HONORABLE JOHN F. KERRY, CHAIRMAN, 
SENATE COMMITTEE ON SMALL BUSINESS AND ENTREPRENEURSHIP, AND A 
            UNITED STATES SENATOR FROM MASSACHUSETTS

    Chairman Kerry. This hearing will come to order. I 
apologize to everybody for the delay, but we had two votes in 
the Senate, as I think you know, and we just finished the 
second one, so people are hustling over here.
    I want to thank SEC Chairman Cox, the PCAOB Chairman Olson, 
and all of our witnesses for taking time out of busy schedules 
to be here to testify at this hearing, in which we will examine 
the effects that the Sarbanes-Oxley regulations are having on 
small business and how we can help small businesses to comply 
with the law.
    Let me say up front that we are all proud that our country 
boasts the fairest and most transparent and efficient financial 
marketplace in the world. We have achieved this status by 
developing a regulatory approach that ensures investors around 
the world can have confidence in our markets. However, between 
the years 1998 and 2000, there were 464 financial restatements 
by public companies. That number was higher than the previous 
10 years combined, and too often, those public companies were 
overstating their income in order to attract investors or hold 
on to investors.
    The trust and confidence of the American people in their 
financial markets was dangerously eroded by the actions of 
WorldCom, Enron, Arthur Andersen and others, and the shocking 
malfeasance by these businesses and accounting firms put a 
strain on the growth of our economy, cost investors billions in 
assets and hurt the integrity of financial markets around the 
world.
    By all accounts, the Sarbanes-Oxley Act has brought back 
accountability to corporate governance and to auditing and to 
financial reporting for public companies. The audit of internal 
controls over financial reporting has produced significant 
benefits, and public company financial reporting has improved 
overall. As a result, investor confidence in our capital 
markets has been restored and our Nation's economic growth 
continues.
    Recent published reports show that accounting restatements 
on large companies' financial results declined by 20 percent 
last year. This is important evidence that Sarbanes-Oxley is 
working. These improvements, however, have not come without 
some drawbacks and complications. Too many small public 
companies who have played by the rules are now expected to deal 
with the time and financial burden required by the Sarbanes-
Oxley law. Last year, businesses with less than $75 million in 
assets saw the number of financial restatements increase by 46 
percent. This shows that businesses getting ready to comply 
with Sarbanes-Oxley are having trouble. I believe that we will 
all benefit when small businesses are prepared for compliance 
with Sarbanes-Oxley.
    However, according to a recent U.S. Government 
Accountability Office study requested by Senator Snowe, the 
cost of compliance and the time needed for small companies to 
comply with Sarbanes-Oxley regulations has been 
disproportionately higher than for large public companies. 
Firms with assets of $1 billion or more spend about 13 cents 
per $100 in revenue for audit fees, while small businesses are 
forced to spend more than $1 per $100 in revenue to comply with 
the same rules.
    As we will hear from witnesses on the second panel today, 
this disproportionate burden faced by small public companies 
may be a deterrent to other small businesses interested in 
going public. These small businesses aren't resistant to fair 
and open financial reporting, but they are hesitant to make 
this transition because of the burdensome costs involved with 
compliance.
    Small businesses, we all know, are vital participants in 
capital markets. They play a critical role in future economic 
growth and high-wage job creation. I have no doubt that small 
public companies will be able to comply with the Sarbanes-Oxley 
law just as big business is doing today. All small public 
companies know it is in their best interest to have regulations 
in place that provide transparency and accountability. These 
are the qualities that encourage investor confidence in U.S. 
markets, giving them access to more investors and increasing 
the pool of available capital, while keeping their competitors 
from manipulating the marketplace through faulty accounting.
    But, and this is an important but, I think each of us on 
this Committee, wherever we have gone in the country, when 
talking to business people, hear anecdotally that there is sort 
of an overreach or an excessiveness, that we could, perhaps, 
accomplish the goals of Sarbanes-Oxley perhaps with a little 
less financial and administrative burden. It is important for 
us to listen to that, to take it into account, to try to figure 
out if that is true. I think the real measure of this hearing 
is whether we can sustain the goals, the accountability, and 
the transparency while minimizing the disruptive features and 
costs so that you maximize your competitive abilities and your 
growth, and that is the balance we would obviously like to 
find.
    We need to find a way, I think, to help some of these small 
businesses, the backbone of the American economy, to make this 
transition and make it effectively and smoothly. To that 
extent, I am very pleased that the Securities and Exchange 
Commission and the Public Company Accounting Oversight Board 
are currently considering final rules and guidance on the 
implementation of Sarbanes-Oxley that will make it easier for 
small businesses to comply with the law.
    And while I acknowledge that the intent of the rule changes 
is to make it easier and less burdensome for small businesses 
to comply, we all know that the devil is always in the details. 
So I look forward to hearing from Chairmen Cox and Olson on the 
status of the rulemaking progress and see how those regulations 
will take into consideration the concerns of the small business 
community.
    As we move forward, there are additional steps that could 
be taken to assist small businesses, and I want to work with 
Senator Snowe and others on this Committee to find, hopefully, 
a common ground on how we could do that.
    I recently wrote to the SEC and the PCAOB with Senator 
Snowe urging the regulators to give small businesses up to an 
additional year to comply with the pending changes to Sarbanes-
Oxley regulations. I believe this added time will help small 
businesses adapt to the changing regulatory structure and make 
it easier for those who lack the expertise or the financial 
resources to be able to comply with the law. I thank Chairman 
Cox for his previous support in providing small public 
companies with additional time to comply with Sarbanes-Oxley.
    As Chair of the Committee on Small Business and 
Entrepreneurship, I will continue to closely follow this impact 
on small firms and very much look forward to working with 
Senator Snowe and our colleagues to try to help small companies 
be able to abide by the law while simultaneously allowing them 
to focus on what they do best, which is creating jobs and 
growing our economy by participating in the capital markets.
    So we look forward to hearing from our witnesses today. 
Before I introduce them, let me turn--Senator Snowe, I know, is 
on her way, but let me turn to Senator Coleman. Do you have any 
opening statement, Senator?

   OPENING STATEMENT OF THE HONORABLE NORM COLEMAN, A UNITED 
                 STATES SENATOR FROM MINNESOTA

    Senator Coleman. Just very briefly. I want to thank the 
Chair for convening this hearing. As I travel around my State 
and I talk to small businesses, this and health care are the 
two single most common concerns and complaints.
    I would just also take a note of personal pride in that 
both our witnesses before us, Chairman Cox and Chairman Olson, 
both have ties to St. Paul, Minnesota, having been born there 
or lived there, so I know they have the right kind of 
background to be very sensitive to these concerns and are smart 
enough to handle the concerns. I look forward to their 
testimony and the testimony of the other witnesses.
    Again, I want to thank the Chair for his leadership on this 
very critical issue.
    Chairman Kerry. Thank you. You are not going to claim there 
is something in the Mississippi River water, are you?
    [Laughter.]
    Chairman Kerry. Senator Tester?

OPENING STATEMENT OF THE HONORABLE JON TESTER, A UNITED STATES 
                      SENATOR FROM MONTANA

    Senator Tester. I also want to thank the Chairman. I want 
to thank Chairman Cox and Chairman Olson for being here. It is 
a delicate balance between regulation and what is appropriate 
and I look forward to hearing your perspective on Sarbanes-
Oxley and how we can make it better. Thank you.
    Chairman Kerry. Thank you very much.
    Senator Corker?

OPENING STATEMENT OF THE HONORABLE BOB CORKER, A UNITED STATES 
                     SENATOR FROM TENNESSEE

    Senator Corker. In the interest of time, I just want to 
thank you for the hearing and our witnesses and I will 
associate myself with Mr. Coleman's comments. Thank you.
    Chairman Kerry. Thanks a lot, Senator.
    Senator Bayh?
    Senator Bayh. I have no opening statement.
    Chairman Kerry. We welcome Chris Cox, the 28th Chairman of 
the Securities and Exchange Commission. He was appointed by 
President Bush in 2005, and prior to his appointment, he spent 
17 years in the House of Representatives.
    Our second witness is Mark Olson, Chairman of the Public 
Company Accounting Oversight Board. He served as a member of 
the Federal Reserve Board of Governors, the Federal Local 
Market Committee since December of 2001.
    Both are highly qualified and we really welcome you here 
today. Thanks for taking the time to come.
    Mr. Cox?

  STATEMENT OF THE HONORABLE CHRISTOPHER COX, CHAIRMAN, U.S. 
               SECURITIES AND EXCHANGE COMMISSION

    Mr. Cox. Thank you very much, Mr. Chairman, Ranking Member 
Snowe when she arrives, and members of the Committee for 
inviting me to testify on behalf of the Securities and Exchange 
Commission concerning the application of Section 404 of the 
Sarbanes-Oxley Act to small business.
    Mr. Chairman, you asked in your opening statement whether 
or not the United States can achieve the goals of 
accountability and transparency that underlie Section 404 of 
the Sarbanes-Oxley Act while simultaneously minimizing the 
costs and the disruption, especially for small business. The 
answer to that, in the view of the Securities and Exchange 
Commission, and I dare say in the view of the PCAOB, is yes.
    Your Committee's charge is a vitally important one 
concerning costs of Sarbanes-Oxley to small business in 
particular, and even more generally, given the importance of 
small business to our economy. For our part, the SEC's charge 
in the statute includes the promotion of capital formation upon 
which small businesses, of course, depend. So like you, 
therefore, we are completely committed to fostering the climate 
of entrepreneurship that is so essential to growth and the 
success of smaller public companies.
    For a small business, raising private capital often depends 
upon the future prospective possibility of tapping the public 
market. So it isn't just that the companies that are already 
public or ready to go public today are affected by how we 
implement Sarbanes-Oxley. It is also true that companies of all 
sizes are similarly affected. Every start-up, every new 
business idea, every determined woman with a dream or a man 
striking out on his own needs a flourishing IPO market.
    America, as you well know in this Committee, creates far 
more new businesses than does Europe, absolutely and on a 
percentage basis, and our capital markets have a far higher 
percentage of individual owners of securities. So it is 
essential for the vitality of our economy that we protect both 
the opportunity for small businesses to raise the capital that 
they need to innovate and the savings of the individuals, the 
many individuals, who have invested their money in the 
securities of smaller companies.
    Today, 4 years after the Sarbanes-Oxley Act was signed into 
law, over 6,000 public companies still aren't required to 
provide the audited internal control reports that are called 
for by Section 404 of the Act. As a practical matter, almost 
every public company with securities registered by the 
Commission, if it has $75 million or less in public equity, 
falls into this category. They haven't been required to comply 
with Section 404, as you noted, Mr. Chairman, because the 
Commission has been very sensitive to the special concerns of 
smaller public companies. All other public companies in the 
United States already have 3 years of reporting on internal 
controls under their belts.
    The Commission has delayed Section 404 compliance for 
smaller companies because of the disproportionately higher cost 
that they face, just as you pointed out. Our experience in the 
first 3 years told us that the way that 404 was being 
implemented was too expensive for everyone; so imposing that 
system on the smallest companies would impose unacceptably high 
costs from the standpoint of the companies' investors, who, 
after all, pay the bills.
    So the Commission and the Public Company Accounting 
Oversight Board set out to address the unique concerns of small 
business. We further delayed the implementation of 404 for 
smaller public companies until Chairman Olson and I, working 
together with the full Commission and the full Board and our 
professional staffs, could replace the current inefficient 
system of Section 404 implementation with a more streamlined 
approach that focuses on the material risks but that still 
provides for effective and meaningful internal control audits 
to protect investors.
    The focus of this hearing is on the proper implementation 
of Section 404. Focusing on the implementation of 404 rather 
than changing the law is consistent with the SEC's view that 
the problems we have seen with 404 to date can be remedied 
without amending the Sarbanes-Oxley Act. And, despite the 
unduly high costs of implementing Section 404, I believe that 
the Act overall, including Section 404, may be fairly credited 
with correcting the most serious problems that beset our 
capital markets just a few years ago.
    So as the Commission and the PCAOB move forward with our 
plans to make the application of Section 404 workable for 
smaller companies, it is important to remember that Congress's 
focus on internal controls was not a mistake. It was and it 
remains exactly the right thing to do.
    It is also important to keep in mind that the Congress 
didn't invent the internal control provisions of Sarbanes-Oxley 
out of thin air. There were clear antecedents for SOX 404 in 
the Federal Deposit Insurance Corporation Improvement Act, 
FDICIA, and before that in the Foreign Corrupt Practices Act. 
Since the internal control requirements in those Acts hadn't 
resulted in unexpected high costs, it was reasonable for 
Congress to assume that Section 404 wouldn't be disruptive, 
either.
    In the case of FDICIA, however, the banking regulators 
hadn't adopted a highly prescriptive standard to implement the 
statute's internal control provisions. But, following the 
passage of SOX in 2003, the PCAOB and the SEC adopted a very 
different Auditing Standard Number 2 to implement Section 404. 
It was approved for use by auditors starting with internal 
control attestations in 2004. Following the implementation of 
AS2, many companies increased the documentation of their 
controls and formalized the procedures they use to identify, 
test, and analyze the effectiveness of those controls.
    The cost of this exercise far outstripped all expectations, 
including the formal estimate made by the Securities and 
Exchange Commission when the reporting requirements of 404 
implementation were approved. It is undoubtedly true that some 
of these higher-than-expected costs reflected long-neglected 
maintenance of internal control systems, but it is equally true 
and undeniable that much of the extra cost was and continues to 
be the result of excessive, duplicative, and misdirected 
effort.
    That concern is one of the reasons that, even now, smaller 
companies aren't yet required to comply with Section 404. In a 
moment, Chairman Olson will talk about the particulars of the 
proposed new auditing standard that the PCAOB is working on to 
replace AS2. But it isn't just the auditing standard that is 
being refashioned.
    The SEC is simultaneously writing guidance specially 
directed to the management of companies to give them a truly 
scalable approach to designing controls that will work for the 
particular circumstances in which they find themselves, 
especially for small business. And we are coordinating the two 
proposals by eliminating from the new auditing standard any 
language that would create an expectation that the controls 
would be designed to fit the audit rather than the audit being 
designed to fit the controls.
    It is our intention that the new guidance for management 
will work together with the PCAOB's proposed auditing standard 
to clearly delineate the auditor's responsibility for opining 
on management's assessment, on the one hand, and the company's 
responsibility for the methods and the procedures that it uses 
in its internal controls evaluation process, on the other hand. 
In combination, the Commission's proposed guidance and the 
PCAOB's proposed auditing standard should result in the 
management of smaller companies being able to use a top-down, 
risk-based approach to their evaluation of the internal 
controls. And the new approach to 404 implementation should 
shift discussions between managements and auditors away from 
management's evaluation process and toward what matters most to 
investors, the risk that material misstatements in the 
company's financials won't be prevented or detected in a timely 
manner.
    By the way, managers and auditors should talk to each 
other, and not just managements, but audit committees and 
boards of directors should have a healthy and ongoing dialogue 
with their auditors about the company's internal controls. 
There is no auditor independence rule or any other rule or 
standard that stands in the way of this kind of useful 
communication.
    The comment periods for both the Commission and the PCAOB 
proposals closed on February 26 of this year. The Commission 
received 205 comment letters from a broad cross-section of 
investors, small companies, large companies, accountants, 
lawyers, regulators, and academics.
    In our outreach to small business throughout this process, 
the SEC has been aided by the exceptional work of our Office of 
Small Business Policy located within the Division of 
Corporation Finance. The Office of Small Business Policy and 
its very able Director Gerry Laporte are focused on making sure 
that the unique needs of small business are reflected in our 
rules and in the interpretations and guidance that we provide 
to the public.
    The Office of Small Business Policy also served as the 
secretariat for the Advisory Committee on Smaller Public 
Companies, which issued its report to the SEC in April 2006. 
That report was the first to focus on the problems with Section 
404 implementation in a systematic way, and it has informed 
many of the solutions that we are now implementing.
    Of special significance to this Committee is that the 
comments from the small business community that we received on 
the proposed new 404 procedures were generally consistent with 
those that we received from other commentators. Almost three-
quarters of the comment letters from small business interests 
indicated that the SEC's proposed guidance would allow 
managements to tailor their evaluation to the facts and 
circumstances of their particular companies and help to focus 
the 404 process on the areas that are most important to 
reliable financial reporting.
    Sixteen of the 42 comment letters representing small 
business also emphasized the need to allow sufficient time for 
smaller companies to consider the final guidance issued, or to 
be issued, by the Commission and the final auditing standard 
that we expect will be adopted by the PCAOB before they are 
required to implement fully Section 404 of Sarbanes-Oxley. We 
take all these comments that we have received very seriously, 
and we are working hard to address these concerns.
    Very recently, on April 4, Chairman Olson and I held an 
open meeting to review the general nature of the public 
comments and the work that remains to be done to address them. 
At that meeting, the Commission made it clear that we are very 
pleased with the progress that we and the PCAOB are making in 
our collaboration, and we focused on four remaining areas where 
we believe additional work is necessary.
    First, we need to better align the proposed PCAOB audit 
standard and the Commission's proposed guidance.
    Second, we need to improve the discussion in the proposed 
auditing standard of how auditors can scale the audit 
procedures, which will be of a special benefit for smaller 
companies.
    Third, we need to do further work to ensure that it is 
crystal clear that auditors should use their professional 
judgment in determining audit procedures and testing based on 
their assessment of risk.
    And fourth, the auditing standard needs to use broader 
principles rather than prescriptive rules to describe when 
auditors may use the work of others. This last will ensure that 
auditors can rely, for example, upon work obtained from 
management's risk assessments and monitoring activities when 
those are found to be competent and objective.
    As this Committee is aware, the Commission has carefully 
phased in application of the 404 reporting requirements. 
Specifically, smaller companies would file management reports 
on their internal controls along with their annual report for 
their first fiscal year ending after December 14, 2007. For 
calendar year-end companies, this would mean March 2008.
    We aim to implement Section 404 just as Congress intended, 
in the most efficient and effective way to meet our objectives 
for the investor protection, well-functioning financial 
markets, and healthy capital formation by companies of all 
sizes. We won't forget, Mr. Chairman, the failures that led to 
the passage of the Sarbanes-Oxley Act in the first place, and 
we won't forget that, for small business to continue to prosper 
in America, strong investor protection has to go hand-in-hand 
with healthy capital formation.
    The reforms that we are making to the Sarbanes-Oxley 404 
process are intended to be of direct benefit to American small 
businesses and the millions of Americans who work for them, who 
invest in them, and who benefit from the goods and the services 
that they provide. We are reorienting 404 to focus on what 
truly matters to investors and away from expensive and 
unproductive make-work procedures that waste investors' money 
and distract attention from what is genuinely material. No 
longer will the 404 process tolerate procedures performed 
solely so someone can claim that they considered every 
conceivable possibility.
    Mr. Chairman, these next few weeks are a critical time for 
small business as we approach the finish line in our work to 
rationalize 404. We look forward to working with you and all 
the members of this Committee in the days ahead on these issues 
as well as on the many other issues that face our Nation's 
small businesses.
    Thank you again for the opportunity to speak on behalf of 
the Commission, and of course I will be happy to take your 
questions.
    [The prepared statement of SEC Chairman Cox follows:]
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    Chairman Kerry. Thank you very much, Mr. Cox.
    Mr. Olson?

  STATEMENT OF THE HONORABLE MARK W. OLSON, CHAIRMAN, PUBLIC 
               COMPANY ACCOUNTING OVERSIGHT BOARD

    Mr. Olson. Thank you very much, Chairman Kerry, and members 
of the Committee, for inviting us to be here. It is a privilege 
to be here with Chairman Cox. We have had the opportunity to 
work on this important issue and I have been pleased at the 
amount of time that he has accorded this issue in order that we 
can achieve, as you appropriately pointed out, the retention of 
transparency in the U.S. capital markets while at the same time 
making the cost consistent with the incremental benefit.
    We look at our charge as the overseer of the accounting 
profession with a very significant small business focus. First 
of all, from the standpoint that, as you know, every accounting 
firm, auditing firm, that either audits or wishes to audit a 
company that is publicly traded must register with us. There 
are over 1,700 firms around the world that have registered with 
us, and of that number, just under 1,000 of them are domestic 
and they come from all over the country. As a matter of fact, 
of that number, we have--let me see, there are, regrettably, 
zero from South Dakota, but 21 from Tennessee, 10 from 
Minnesota, 31 from Massachusetts, 1 from Montana, 11 from 
Indiana, and 2 from Arkansas. So as you can see, they do cover 
all of America and most of them are very small.
    Of the number, only a handful, about 125, audit more than 
five publicly-traded companies. The foundation of the statute 
is that if you choose to access the capital markets, there is 
an expectation for the level of internal controls that you are 
expected to have, and the external auditor is expected to opine 
on that. This is not an unreasonable expectation for accessing 
the U.S. capital markets and it is perfectly consistent, I 
think, with what you said earlier about maintaining the 
transparency of the markets while at the same time maintaining 
confidence in the markets. Senator Tester called it a delicate 
balance and we believe that is exactly the case.
    With respect to small businesses and small firms, 
unquestionably, the factors of scale alone will mean that the 
burden will fall disproportionately to the smaller firms if it 
is not addressed. I think your 13 cents per hundred for the 
large businesses and a dollar per hundred for the small 
businesses is probably pretty accurate in terms of cost if we 
do not pay specific attention to them. I would like to focus on 
the manner in which we have done that so far and then talk 
about some of the things that we can continue to do in the 
future.
    First of all, we have had small business audit forums 
around the country for the last several years. We have had 19 
forums in 14 cities, and those forums have helped the small 
firms learn how they can do audits in the post-Sarbanes-Oxley 
environment. We have had 1,400 auditors attend, and in many 
cases, we have also had representatives of audit committees 
attend.
    The manner in which we do the supervision, or oversight, of 
the small firms is very different from the larger firms. In 
many of the cases, we do not need to be intrusive to the point 
that we need to be on site. Much of it can be off-site. The 
manner in which we do the inspections is consistent with the 
level of involvement that they have with publicly-traded 
companies.
    We are in the process now, and I think that this is very 
key, of developing guidance for auditors of small public 
companies. The guidance we are developing is through the 
volunteer efforts of 12 practitioners from 12 firms around the 
country who are looking at the scalability of the small audits 
and trying to make sure that we can define, in a very specific 
way, how they can be scalable and, cost effective for the 
smaller public companies. That is due to be made public later 
this year.
    Chairman Cox talked about some of the goals for a revised 
Standard AS2, which will be replaced by what we expect will be 
AS5. We will help address that as well.
    AS5 will be focused on controls that really matter. It will 
be written in understandable language as opposed to audit-
speak, and we think that this will help in the manner in which 
audit committees or CFOs work on the engagement with the 
external auditor. Ultimately, working with the SEC, I am very 
confident that we will get the words right.
    But as you suggested, the devil is in the details. 
Implementation is really key; that is going to involve PCAOB 
and the SEC with our respective guidance that we are putting 
out. Very importantly, it will involve the firms themselves. 
The issue is for the firms to recognize that there is an 
expectation for a certain level of internal controls that 
hopefully will be respected and appreciated.
    Very importantly, the auditing firms need to be involved. 
They need to be involved in the sense that they need to scale 
the manner in which they are making the audits more efficient. 
Just today, Mr. Chairman and members of the Committee, we 
issued what we call a 4010 Report where we have summarized some 
of what we noticed in the efficiencies of the audits as they 
were done in 2006, and we pointed out in a very specific way 
how the efficiency has been improved and pointed out ways that 
it can be even more improved.
    As Chairman Cox said, this is at least the third time, I 
think, that the Congress has mandated an expectation that there 
will be a requirement for internal controls over financial 
reporting, FDICIA was the next-to-the-last and the Foreign 
Corrupt Practices Act was the first.
    One final point I would like to make gets to the U.S. 
competitiveness issue. In the relatively brief period of time 
that the PCAOB has been functioning, we have noticed that in 
almost all the developed countries of the world there has been 
a PCAOB-like organization started. As capital markets improve 
around the world, we are also finding around the world that 
there is a need for a government-mandated entity that would 
focus on oversight over the accounting and auditing 
professions.
    Next month, we will be holding a workshop here in the 
United States for our peers around the country. It can be a 
learning experience for all of us. Interestingly, there are 
people from 44 different countries who represent organizations 
like the PCAOB who are coming here to participate in the 
workshop.
    Mr. Chairman, that concludes my statement. We have a formal 
statement that we have submitted for the record. I would be 
happy at this point to answer any questions.
    [The prepared statement of PCAOB Chairman Olson follows:]

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    Chairman Kerry. Thank you very much, Mr. Olson.
    That was very helpful, both testimonies, and we appreciate 
them very much.
    Senator Snowe is now here. Senator, do you want to wait and 
sort of gather for a minute----

 OPENING STATEMENT OF THE HONORABLE OLYMPIA J. SNOWE, A UNITED 
                   STATES SENATOR FROM MAINE

    Senator Snowe. Thank you, Mr. Chairman. I appreciate it and 
I am going to dispense with my opening statement, but I want to 
thank you for holding this hearing today because this is a 
critical issue that has an enormous impact on small public 
companies.
    I want to welcome Commissioner Cox, with whom I have had 
the privilege of serving in the U.S. House of Representatives. 
I am delighted that he is continuing his record of standing 
public service to the SEC. To Chairman Olson, thank you for 
your contributions and charting a new course as Chair of the 
Public Company Accounting Oversight Board, so we thank you very 
much.
    These are critical issues and I will get into it in my 
questioning. We obviously have to address the challenge of 
harmonizing the regulations and the direction from both the SEC 
and from the Board itself. That is one of the issues that I 
have heard from the small business community in my State and 
across this country. It is creating a lot of confusion and the 
impact of the cost compliance is becoming exorbitant for many 
small public companies that otherwise should be channeling 
their resources in the direction of job creation and innovation 
rather than paying the unnecessary expenses associated with 
regulatory compliance. I have introduced a bill to address the 
impact of the regulations on small public companies, as well, 
because I think that these carts should be assessed along the 
way.
    But we will get into that in the questions and I thank you 
both for being here and the other witnesses, as well. Thank 
you, Mr. Chairman.
    [The prepared statement of Senator Snowe follows:]
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    Chairman Kerry. Thank you very much, Senator Snowe.
    We will try to proceed as quickly as we can, maybe 5-minute 
rounds to start with and if we need more time, I am happy to 
open it up to do that.
    I want to start. I appreciate the testimony of both of you, 
and it is helpful. As a starting principle, an awful lot of 
small businesses that we meet with say to us, ``Senator, I am 
not a big corporation. I don't have the same money. I can't 
afford all of this. I am just starting up. I don't have as much 
working capital. These guys can afford all of these 
accountants,'' et cetera. You have set a principle here, which 
I think is important for us to air as a threshold principle 
with which we are dealing, which is essentially: If you want to 
get into the marketplace, if you decide to go public, there is 
a standard of behavior that you have to adhere to.
    Is it fair to say that has to be without regard to cost and 
therefore, you are loath to draw a distinction between the big 
companies and the small companies, so everybody in the 
marketplace is the same? Is that a fair statement?
    Mr. Olson. The audit itself, Mr. Chairman, should be very 
idiosyncratic and it should be based on the size and complexity 
of the individual firm. We have heard examples of relatively 
small companies that have, for instance, a very high degree of 
complexity if they are doing a lot of derivative activities. We 
have also heard of simple companies that are accelerated 
filers. In other words, they have passed the threshold of being 
very large, but in fact, they are a very uncomplicated company. 
And so the audit itself ought to reflect that complexity----
    Chairman Kerry. And you are saying it doesn't today?
    Mr. Olson. No, it can and increasingly can. It was the 
initial expectation that it could, but that is exactly what we 
are trying to do in the rewriting of the AS5. We are in a very 
specific way describing how it can be more risk-focused and how 
it can be designed for the particular complexity and size of 
the company involved.
    Chairman Kerry. I see. So in the end, there will be a 
variation, but the variation will not be defined by the per se 
size of the company. It will be defined by sort of what the 
company is engaged in and what kind of activities it is 
involved in. Is it fair to say that the discretionary audit 
standard is going to be applied?
    I say discretionary because in reading Chairman Cox's four 
areas, the four areas that you say--or the four remaining areas 
where we believe additional work is necessary are not 
inconsequential areas. The one in particular that leapt out at 
me was that we need to do further work to ensure it is crystal 
clear that auditors should use their professional judgment in 
determining auditor procedures and testing based on their 
assessment of risk. That seems to sort of restore or put back 
in place a fairly large measure of discretion. I assume that is 
the purpose of it.
    Mr. Olson. That is the purpose of it. What the starting 
point----
    Chairman Kerry. Is there a danger in that, where you go 
back to where we were?
    Mr. Olson. The starting point is the management itself 
defining its critical controls, and then the auditor would come 
in and attest to management's assertions as to the adequacy of 
those controls. What PCAOB does is provide the standard that 
the external auditor would come in to do in order to make that 
determination.
    What we have now, and they have to be looked at in 
combination, is the management guidance provided by the SEC 
which anticipates that the management will have a very clear 
hands-on understanding of which controls are key. In addition, 
PCAOB has defined a standard as to how you could do the audit 
but with an emphasis on how you can identify the key controls 
and not simply make a recitation of all the controls.
    Chairman Kerry. So what happens, Mr. Chairman, if the 
auditor and the management disagree on what either risk is?
    Mr. Olson. That could well happen, and that is a negotiated 
process in a sense. But also, what the external auditor is 
doing is applying the standard----
    Chairman Kerry. Why is it a negotiated process? I mean, 
pre-Sarbanes-Oxley, that was also a negotiated process, 
correct?
    Mr. Olson. Yes.
    Chairman Kerry. But what we discovered----
    Mr. Olson. Well, negotiated in the sense that there could 
be agreement--the focus was on the extent to which the control 
was a key control and the extent to which they were following 
appropriate audit standards.
    Mr. Cox. I would also jump in, if I may, and point out the 
obvious, which is that, pre-Sarbanes-Oxley, there was no 
Sarbanes-Oxley Section 404 audit of internal controls.
    Chairman Kerry. Correct. There were just the standards of 
the industry and the sort of----
    Mr. Cox. Well, there was a financial statement audit.
    Chairman Kerry. Correct. Understood. So the assumption is 
that given 404 and its requirements and the level of scrutiny 
that both of you will argue here, not to mention the risk in 
the marketplace of adverse reporting, you believe that this 
standard you are looking for here of professional judgment and 
testing and assessment of risk is the balance? That is 
effectively what you are looking for now?
    Mr. Cox. That is correct, Mr. Chairman.
    Chairman Kerry. And you think that balance can, in fact, 
reduce costs?
    Mr. Cox. The entire purpose of using judgment is to achieve 
the idiosyncratic audit that Chairman Olson is talking about. 
If an auditor cannot use his or her judgment, if there is a 
``check the box'' mentality, then there is absolutely no way to 
avoid doing things that everyone knows are wasteful.
    Chairman Kerry. What is the check against an overly 
friendly relationship building in the assessment process?
    Mr. Cox. Well, obviously, we have a great deal of emphasis 
placed on the independence of the auditor to begin with. 
Second, there is still ample direction for both the auditor in 
auditing what management has done and for management itself in 
terms of what it is that they are trying to achieve with this 
whole exercise. It is supposed to be focused on things that can 
affect the financial statements, and what we are trying to 
wring out is any make-work that has nothing to do with 
something that might be material to the financial statements.
    Chairman Kerry. So it is your judgment that there has been 
that kind of make-work in the process to date?
    Mr. Cox. That is the testimony that we have had from a 
number of commentors at our roundtables, in the report of the 
Advisory Committee on Smaller Public Companies, in the letters 
that we have received as recently as our latest round of 
proposals from both the PCAOB and the SEC. I think everyone is 
focused on the fact that investors are doubly injured when 
their money is wasted on things that don't matter, because not 
only is that money misspent, but it is also a distraction to 
the auditors and for the financial statement integrity away 
from what truly is material.
    Chairman Kerry. Did you find in the process that there was 
a distinction between the make-work requirements with respect 
to small business and what happens in large business?
    Mr. Cox. Not necessarily, although I think it is felt more 
acutely by smaller businesses for the reason that you 
described, that proportionately, those costs fall heavier on 
smaller businesses.
    Chairman Kerry. In the fourth paragraph of the items that 
you think need more work, you talked about how the auditing 
standard needs to use broader principles rather than 
prescriptive rules. Can you sort of fill that out a little bit 
for us?
    Mr. Cox. Yes. I think that that is a cognate of the point 
we were just discussing. The hope is that we can avoid waste 
and inefficiency in the audit, and both the PCAOB--in its 
inspection process, which in part is focused on efficiency--and 
the SEC--in our provision of guidance to management want to be 
sure that that aim is achieved. By coming at this in a 
principles-based way, we hold people accountable for what truly 
matters.
    In Enron, which gave rise to a great deal of this, there 
was famously adherence to a lot of technical rules, but when 
you stepped away from examination of the bark on the trees and 
recognized the forest, there was a massive fraud underway. A 
principles-based system holds people accountable even if they 
have technically complied with all of the small particular 
requirements, even if they have with a check-the-box mentality 
said, ``I complied with these technical rules.'' We want to be 
sure that we have that kind of safeguard built into the system.
    Chairman Kerry. A final question. On the consumer side, 
they have also weighed in with you. You have received a lot of 
letters from everybody on both sides. But they have suggested 
that the Commission is more concerned with reducing cost to 
business than with ensuring that the audit is effective. Can 
you speak to that?
    Mr. Cox. Our No. 1 concern is investor protection. We want 
to make sure that we have financial statements upon which 
investors can rely, and we want to make sure that the 
investors' money is being appropriately spent to achieve that 
objective. As I mentioned a moment ago, if the investors' money 
is being wasted on things that don't affect the reliability of 
the financial statements or their integrity, then they are 
being doubly injured because all resources are scarce, 
including the auditors' time. And, if the auditors are chasing 
things down rabbit holes that don't matter, they are probably 
missing other things that are truly important.
    Chairman Kerry. Thank you, Mr. Chairman.
    Senator Snowe?
    Senator Snowe. Thank you, Mr. Chairman.
    Mr. Olson, in the conference report of the Sarbanes-Oxley 
Act when it passed, it indicated that internal controls should 
not be the subject of a separate audit. I just would like to 
have clarification from both of you on how you interpret the 
intent of Congress. Obviously, we want to create an important 
balance here. There is a public interest at stake. At the same 
time, I don't want to stifle competitiveness and inhibit job 
creation and job growth and innovation. In the conference 
report, in referring to the internal control evaluation 
reporting, it indicated that any such attestation shall not be 
the subject of a separate engagement.
    Mr. Olson. Senator, a couple of points on that. There was 
some confusion, I think, or there was some disagreement as to 
whether or not an audit could be done on management's 
assertions and then a separate audit done on the controls 
themselves, and that is one of the issues that we addressed in 
AS5. We determined that it was not necessary to do two audits 
but, in fact, if you were to focus on just the controls 
themselves, you did not have to have a separate audit done on 
the management assertions. And so that has been addressed in 
AS5.
    Furthermore, I think that the previous guidance, under 
which the FDICIA 112 audits had been done, the question was 
raised that you could focus on either one or the other but you 
could do it with a single audit.
    Also, I think it is important to know that what we are 
trying to do now is to look--if you can combine the audit of 
internal controls and the financial audit themselves, there are 
a lot of efficiencies to be gained in that. So we have tried to 
address that question.
    Senator Snowe. Are you in agreement on the fusion of those 
two audits, I mean, on the accounting standards side?
    Mr. Cox. Senator Snowe, as you may recall, I served on the 
House-Senate Conference Committee on Sarbanes-Oxley, and I 
think you are exactly right in reading the plain language that 
you just quoted. And second, inferring the intent of Congress 
here, it was clearly contemplated in Section 404 that we would 
have an integrated audit, and for many of the good reasons that 
Chairman Olson just specified. So the Commission has directed 
our staff to work closely with the PCAOB staff as we finish up 
this work to ensure that there is the best possible integration 
of the financial statement audit, which itself includes an 
assessment of internal controls, and the internal control audit 
that is required by the PCAOB.
    Senator Snowe. In the hearings, in the meetings that you 
conducted around the country, have you had a chance to get a 
response from small public companies with respect to this 
integrated approach at this point? Small companies won't be 
able to review the new requirements until June when these 
guidelines are issued?
    Mr. Cox. We have indeed received many comment letters in 
the formal comment process on both the proposed audit standard, 
and the SEC's proposed management guidance and those comments 
are generally the same coming from smaller companies as from 
larger companies. They think that, in this respect, we are 
moving in the right direction.
    Senator Snowe. I know I have heard from some of the smaller 
public companies in Maine, and I want to thank you again, 
Chairman Cox, for you and your staff being responsive to a 
number of the questions that they have asked of the SEC. But 
what I have heard is that with the 6-month period in which they 
would have to conform to those regulations, do you think that 
that is going to be a sufficient amount of time for them to do 
so?
    Mr. Cox. I don't think it would be a sufficient amount of 
time to comply in full with Section 404. There are two parts to 
404. There is what management does without its auditors, and 
then there is the 404 audit. And in our experience it is that 
404(b) requirement, the 404 audit, that is the basis of most of 
the complaints, most of the stories about distracting non-
essential work and instinct for the capillary instead of 
instinct for the jugular that we are trying to fix. And so we 
have postponed for a further year the requirement that smaller 
public companies would have to apply with that 404 audit piece.
    Senator Snowe. I see. So on that piece, you are deferring 
for another year?
    Mr. Cox. Another year.
    Senator Snowe. I see. OK. Now----
    Mr. Cox. That would be March 2009 for a calendar year-end 
company.
    Senator Snowe. I know one of the other issues that has been 
raised by the small business community is that the SEC and the 
PCAOB should harmonize their rules, because on one hand, the 
SEC's guidelines have been too vague. On the other hand, the 
Board's have been too specific. Do you think you have been able 
to fuse the rules sufficiently so that there is clarity in that 
regard and provide specific guidance? There is a tremendous 
burden that is placed on these small public companies that 
obviously face the costs disproportionately than larger 
companies. Senator Enzi and I requested a Government 
Accountability Office study back in 2004 that basically 
asserted that fact. I think it was $1.14 it cost small 
companies for every dollar required for compliance. This was 
nine times greater than it was for large companies to comply 
with the regulations.
    Mr. Olson. Senator, the operative word that you use is in 
``harmony'' and I think that that is exactly what we are trying 
to achieve, harmony in this respect. The management guidance 
that would come from the SEC is the guidance to management that 
has the hands-on familiarity, and in our case, what we are 
doing is adopting a standard that the auditing firm would use. 
The management guidance should help in one very important 
respect: With that management guidance, our auditing standards 
should no longer be the de facto standard against which 
management would adopt its standards.
    I think that, in addition to being highly prescriptive in 
the original AS2, there was an overabundance of caution, and 
the auditing world, the PCAOB, probably the SEC, and even audit 
committees, I think, were absolutely over-prescriptive. They 
wanted to make sure there were no mistakes made. Well, we have 
now lived with Sarbanes-Oxley and we have learned better how we 
can make it much more efficient and effective and I think we 
will move toward achieving that. The harmonization between the 
SEC and the PCAOB is exactly what we are trying to achieve.
    Senator Snowe [presiding]. That is important and I 
appreciate that. Thank you.
    Senator Tester?
    Senator Tester. A question for Chairman Olson, and Chairman 
Cox, if you wish. First of all, I want to thank the Board for 
flexibility on Sarbanes-Oxley. I guess my question is going to 
revolve around what is going on in other countries. What 
happens when we have got a situation where you have got 
investor protection versus capital formation in other 
countries? Is there a Sarbanes-Oxley out there for other 
markets? Of course, there will be a follow-up on this.
    Mr. Olson. Senator, there is indeed, and I think that is 
one, for me at least, of the more interesting components of the 
environment that we are dealing with. It is following the 
growth in capital markets around the world.
    If you look at the markets that are growing the fastest 
right now, they are in places like India, developed Asia, even 
a resurgence in Japan. You see a significant building of 
capital markets in Europe, for example, in Eastern Europe, and 
London has been--has not always been, but in recent years has 
become a very attractive market. So as you see the capital 
markets grow and you see more and more investors in those 
countries investing in those capital markets, logically and not 
surprisingly, what you see is a focus on the quality of the 
audits being conducted. As a result, that is why we see PCAOB-
like entities around the world.
    I just came from a meeting not long ago where I met with my 
counterparts from around the world, all of whom are grappling 
essentially with this same issue, the appropriate way to 
monitor and inspect the auditing profession while at the same 
time not unduly interfering with a cost burden.
    Senator Tester. So how do they deal with--are they more 
onerous or less or similar? With Sarbanes-Oxley, are we putting 
our businesses in this country at a competitive disadvantage? I 
guess that is ultimately the question.
    Mr. Olson. Let me describe the differences, because you 
have hit on a very important point and the differences are 
really important. What Sarbanes-Oxley did in establishing the 
PCAOB is that it required an independence of the PCAOB separate 
from the accounting profession. So, for example, we do not get 
funding from the accounting profession. Our funding comes 
directly from corporate America, from publicly-traded 
companies.
    In many other countries that have established an 
organization like ours, they don't have the same resources we 
do. They are not in all cases able to fund the kind of a staff 
that we have to do our inspections, and sometimes they don't 
have the same degree of independence. Bulgaria and Romania do 
not have the same resources that we do, for example, but they 
have had somewhat that same focus.
    Senator Tester. From an investor protection standpoint, 
where do we rate in the worldwide economy?
    Mr. Olson. We are not participating in a race to the 
bottom, and I think that is the most important point. We are 
maintaining confidence in the standards we have in the United 
States while still being an attractive marketplace. If you look 
at the impact of Sarbanes-Oxley, you can actually track the 
fact that there has been a reduced cost of capital for firms 
that have gotten a clean bill of health on their ICFR audit. I 
don't know where we rank. I wouldn't put a number on it, but I 
think that confidence in the U.S. markets has been restored.
    If you look at the growth of IPOs, we have not grown as 
fast as some, but there has been an increase in the number of 
U.S. IPOs every year since 2003. We have an increased number of 
foreign companies that are issuing stock either as joint 
issuance or issuing in the United States. I think that that 
bodes well for the confidence in our markets.
    Senator Tester. Thank you, Madam Chairman. Thank you, 
Chairman Olson.
    Chairman Kerry [presiding]. Thank you. Senator Coleman?
    Senator Coleman. Thank you, Mr. Chairman. Again, I want to 
thank you. I do have a more extended opening statement that I 
would like entered into the record.
    Chairman Kerry. Without objection, it will be placed in the 
record.
    Senator Coleman. Thank you.
    [The prepared statement of Senator Coleman follows:]
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    Senator Coleman. I really appreciate the efforts and the 
sensitivity of both of the Chairmen here who understand the 
importance of us being competitive and small business being 
able to prosper. Clearly, some progress is being made even at 
this stage. We will have another witness here, a small business 
person from Minnesota, Rich Wasielewski, and my belief is he 
will talk about some of the competitive disadvantages that 
American business faces because of some of the burdens of 
Sarbanes-Oxley. So clearly, I think we are still in search of a 
more perfect balance.
    Chairman Olson, you raise the issue about harmonization. Or 
you made the comment about harmonization. I am sure you are 
both aware that on February 21, 2007, the SBA Office of 
Advocacy sent letters to both of you relating to the proposed 
internal control on auditing standard rules. That letter 
raised, at least from what I saw, significant concerns about 
the differences, about this effort at harmonization. I think it 
went on to say that despite the working relationship, it was 
clear to me that the rules that you are proposing don't fully 
comport. For example, according to the comment letter, to 
quote, ``the SEC guidance seeks to provide flexibility and 
scalability to small public companies and therefore does not 
prescribe a particular methodology of identification of risk 
and controls. In contrast, the PCAOB's revised accounting 
standard is very prescriptive and contains detailed bullet 
points on how auditors must evaluate management's internal 
control reporting process.'' In the end, the letter finally 
stated that ``small business representatives have stated that 
by the use of the PCAOB's revised auditing standard as their de 
facto guidance, they are afraid that following the SEC's vague 
and flexible management guidance results in a negative audit by 
an auditor using the more detailed and prescriptive revised 
auditing standard.''
    My question, then, is with these concerns in mind, can you 
talk a little bit more about harmonization? Can you more 
specifically address this issue so that we don't have 
businesses acting in fear and have a sense that they are 
dealing with the concerns of both of you?
    Mr. Olson. I would be happy to lead off on that one, 
Senator. To go back to when we first issued AS2, that was a 
well thought-through, carefully crafted standard that gave a 
lot of specific guidance as to what auditors might do in 
auditing the internal controls of financial reporting. Because 
of the abundance of caution that I mentioned, many of those 
specific examples, then, were determined to either be mandatory 
or presumptively mandatory. Some of the wording and some of the 
language in there perhaps suggested a great deal more 
procedures be done than were necessary. The term ``make work'' 
was used before. I don't associate with that term. I don't 
think it was make work. I think it was just the fact that 
people were wearing a belt and a pair of suspenders in terms of 
identifying the number of controls for which they wanted 
documentation and they wanted to test them.
    And then, immediately following that, in two separate 
instances, the PCAOB had issued either questions and answers or 
additional guidance as to how you could make the audit more 
scalable and less costly and less intrusive. And yet what we 
discovered was that the auditing firms were still going back to 
the original standard. They weren't fully incorporating the 
subsequent guidance. That is why instead of amending AS2, we 
are replacing AS2. I think that will address the de facto 
standard issue. Also, the SEC is providing its new management 
guidance relatively simultaneously.
    Senator Coleman. And my concern, and I turn to Chairman 
Cox, is that this guidance is not either conflicting or 
confusing but, in fact, is harmonization. What I am looking 
for, I just want to be assured--I want you to assure this 
Committee that when you finally get the kind of rules out there 
that they are not going to create confusion, that they are not 
going to be in conflict, and that the differences will be 
resolved. Chairman Cox?
    Mr. Cox. Senator, there are two areas of the four that I 
mentioned that we are now focused on in the remaining weeks as 
we tie up the loose ends on this major project that relate to 
what you are describing. One is harmonizing definitions, and 
that, as you can imagine, is vitally important. We don't want 
to use the same terms in different ways as part of the same 
process, so we are strongly committed to getting that right.
    The second area where harmonization is important and where 
we are focused, and I believe this goes directly to the comment 
that you are relating to us, is that, to the extent that the 
SEC's management guidance is more principles-based than the 
current version of the PCAOB proposed audit standard, we are 
trying to get further in harmony there, as well. Because if one 
is check-the-box and the other is principles-based, and I don't 
mean to use that characterization because I don't think that 
that is where we are at all, I think we are really down to the 
short strokes here. But just to use that as two extremes, if 
one were check-the-box and the other were principles-based, 
then you would almost certainly have a very serious problem of 
the check-the-box approach being the de facto standard. That is 
what happened last time around, and that is the very problem we 
are trying to fix.
    Senator Tester. Thank you. I just again hope that you work 
together on this so that those differences are resolved. Thank 
you, Mr. Chairman.
    Chairman Kerry. Thanks, Senator. I appreciate it.
    Senator Bayh?
    Senator Bayh. Thank you, Mr. Chairman. Gentlemen, thank you 
for your service and your time today.
    Mr. Olson, I would like to start with you. The chart that 
is up behind us here about the differences in the cost of 
compliance, is there any evidence that as we have gone through 
this cycle now a couple of times the disparity is shrinking 
sort of as people get their feet under them, even in the 
absence of any additional action by you and the--I see you are 
looking at the chart. It just visualizes what has been orally 
said about the added cost of compliance for small business.
    [The referenced chart was not available at press time.]
    Mr. Olson. The bar on the left indicates small companies, 
$75 million and over, and Sarbanes-Oxley does not yet apply to 
them. I am assuming that what is shown is an estimate. Section 
404 does not yet apply to them. So I would think that it would 
not fully take into consideration----
    Senator Bayh. Well, let me ask, then, for companies above 
the bar where it goes into place----
    Mr. Olson. Yes.
    Senator Bayh [continuing]. As the auditors and the 
companies begin to go through this process, are natural 
efficiencies due to familiarity beginning to take place anyway?
    Mr. Olson. Very much so, and I think a couple of things----
    Senator Bayh. Is that just anecdotal or is there any 
analysis that quantifies that?
    Mr. Olson. Let me tell you why it is difficult to come up 
with a real careful quantification. If the external auditor is 
auditing both--in other words, doing a consolidated audit of 
financials and internal controls, it is tough to break out 
which of the costs are for the internal controls as opposed to 
the financial audit. Anecdotally, what we are hearing is that 
firms that have accelerated filers have their methodology in 
place, and have their approach to the controls. In fact, I very 
recently heard an example of an accelerated filer that used the 
occasion of Sarbanes-Oxley to catch up on some of the internal 
controls that already needed attention; they used this as an 
opportunity.
    What I think we are hearing increasingly from the 
accelerated filers, and I hear this again and again and again, 
that they are a better company today because of Sarbanes-Oxley, 
but that the incremental cost still exceeds the incremental 
value and that is what we are trying to bring into line. We 
still have a ways to go. I wouldn't claim that we have achieved 
all of that at this point.
    Senator Bayh. So some progress, but progress yet to make?
    Mr. Olson. I think that is a fair statement.
    Senator Bayh. Chairman Cox, for you, one of the things I 
have been interested in since the beginning of this whole 
thing, and I know you were there at the inception, as well, I 
would be interested to know if anybody in your shop has any 
data about sort of the aggregate cost of compliance across the 
economy versus the aggregate amount of fraud that we have been 
preventing or that had been taking place because of this. One 
of the things that has been on my mind, it would be ironic if 
in the name of protecting the shareholders we actually were 
imposing more costs on the shareholders than the harm we were 
preventing. Is there any data out there about this?
    Mr. Cox. It is a mismatch because there is much harder data 
on what we spend to prevent fraud and much softer data on the 
fraud that doesn't occur. Economists make a real and heroic 
effort to measure the latter, but as you might imagine----
    Senator Bayh. How about the fraud we were actually 
catching?
    Mr. Cox [continuing]. Measuring what didn't happen is very, 
very difficult.
    Senator Bayh. Pre-Sarbanes-Oxley, there is some data on the 
amount of fraud that was actually detected----
    Mr. Cox. Well, we do know--our economists will now probably 
want to restrain me because I am going to----
    Senator Bayh. You need a one-armed economist.
    [Laughter.]
    Mr. Cox. I am going to practice amateur economics here, but 
if one is willing to do reasonably rough justice about this, it 
is a fact that our markets are healthy now. They were not 
before. They were stressed. They were in great difficulty. 
Investor confidence was shaken. There were significant problems 
that were uncovered. We are, at least right now, at a time when 
we do not have problems of that magnitude coming to the fore. 
We at the SEC look for them every day.
    Senator Bayh. Well, how about the hard data that we do have 
on the additional costs of compliance? Are there figures out 
there on that?
    Mr. Cox. Yes, of course.
    Senator Bayh. What would those be?
    Mr. Cox. Now, you mentioned specifically that you are 
looking for a figure in aggregate for the whole country?
    Senator Bayh. I think you know what I am driving at, the 
appropriate additional cost to promote transparency. I am just 
trying to do a cost-benefit analysis of what we are spending 
and the benefit we are deriving from that.
    Mr. Cox. What I would like to do, we have, of course, an 
Office of Economic Analysis and it is staffed by top-flight 
professionals at the SEC. What I would like to do is get you 
the very best data that we have on this rather than trying to 
wing it. But I assure you, having looked at this very 
carefully, that the numbers are going to be much more reliable 
on the cost side than they are on the benefits side.
    Still, I want to go back to a question Senator Tester put a 
moment ago. I think that the fact that so much of the world, 
and Chairman Olson mentioned this in his response, is emulating 
Sarbanes-Oxley, and there is a lot of competitive marketing 
going on in other countries, attacking the brand name of 
Sarbanes-Oxley and so on. But if you take a look at the 
securities regulations that are being propounded in these other 
countries, including in the United Kingdom and many of the 
leading markets in the world, they are emulating the major 
parts of Sarbanes-Oxley, including internal controls 
assessments by management. The one respect in which they have 
not emulated 404 is the audit piece.
    But across the board, I think that, if one is talking about 
Sarbanes-Oxley in general and the recent improvements that are 
being made to investor protection in the United States of 
America, the emulation by other countries and around the world 
tells us, first, we are not putting ourselves at a competitive 
disadvantage because that is what is going on in these other 
markets, and second, we probably did something right.
    Senator Bayh. Thank you, gentlemen.
    Chairman Kerry. Thank you very much, Senator. I appreciate 
it.
    We have one more Senator and then we do have another panel. 
I don't know, gentlemen, do you have folks here with you who 
may be able to stay and hear them, because I find sometimes the 
regulatory folks who come up first would sometimes benefit by 
hearing what the other folks have to say.
    Mr. Olson. We have people who will stay, yes.
    Chairman Kerry. Thanks. That is great.
    Senator Corker?
    Senator Corker. Thank you, Mr. Chairman, and I thank both 
of you for your service.
    I want to follow up a little bit on Senator Bayh and 
Senator Tester's comments. Before I do that, I do want to thank 
you for working together to try to create some harmony. I think 
``harmony'' is the word that has been used here today, to make 
sure that companies don't feel bifurcated, if you will, in 
their efforts to satisfy each of you and end up doing a lot of 
work that is make-work. I will just add to Norm Coleman's 
comments, as far as what you hear back in the State of 
Tennessee from small companies, SOX is a huge issue and one 
that they continue to be concerned about.
    But I want to take it more to the macro level. I know we 
are talking about small business today, but I know that Senator 
Bayh was asking more quantitative kinds of questions, and I 
know it is hard to come up with those and sometimes even ever 
find out what is a true answer to those questions. If you step 
back and just look at the macro level in our country and look 
at the way we are competing with other countries, the 
tremendous resurgence of private equity here--I know a lot of 
that is due to the low cost of debt today, but tremendous 
attribution to the regulations it takes to be in public markets 
today, we see a tremendous resurgence in London and Europe and 
other countries.
    Could you all just give us some editorial comments as to 
where you see us as a country relating to public markets over 
the next 5 or 10 years and just some other editorial comments, 
because both of you addressed this, as to what we might ought 
to look at as a country to make ourselves more attractive in 
those ways.
    Mr. Cox. Senator, the globalization of markets, which has 
been a fact of life ever since we have had public companies, 
for hundreds of years, is accelerating in the time in which we 
live and markedly so. And so for the Securities and Exchange 
Commission, focusing on how we work with our fellow regulators 
around the world has been a very, very big part of my job, and 
to a certain extent, given the SEC's history, a surprisingly 
large part.
    As you know, the New York Stock Exchange and Euronext have 
combined. The NASDAQ took a 25 percent stake in the LSE. There 
are alliances being formed among markets and exchanges around 
the world. Increasingly, investors have the opportunity, either 
directly or indirectly, to require foreign securities to 
subject themselves to the regulation therefore not of the 
United States but of other countries. You mentioned the 
phenomenon of very large private pools of capital, including 
private equity hedge funds and so on, all of these changes. And 
added to that, the development of large liquidity pools in 
other countries that are competitive with the United States 
that didn't formally exist and not to that extent have made the 
environment a very challenging one for the United States 
generally and for regulators specifically.
    But here is, if we take a snapshot, where we find 
ourselves. We are the largest, deepest, most liquid market in 
the world by far. Our exchanges are the largest, deepest, and 
most liquid by far. We continue to attract the lion's share of 
the world's investment offerings and there is no other market 
that comes particularly close to us. We have no birthright to 
that, and so we have to constantly sharpen our competitive 
edge.
    In my view, one of our comparative advantages is that one 
puts its, his, or her money into the United States, there is a 
rule of law here and a sense of safety and security that is 
unparalleled and exists nowhere else in the world. We want to 
maintain that competitive and comparative advantage. We also 
want to make sure that our regulations, because we have to now 
work more closely with other regulators, fit this new 
increasingly global world in which investors are living, and 
that means not so much that we have to diminish in any way the 
ultimate level of protection, but rather that in order to 
achieve constantly that same high level of protection, we have 
got to keep pace. We have got constantly to change for that 
reason.
    Mr. Olson. Senator, let me just follow up. First of all, I 
associate myself with Chairman Cox's remarks. Having come to 
the PCAOB from another regulator and having been in a highly 
regulated environment all of my life, there is one fundamental 
premise that we in the United States have that most of the rest 
of the world does not have, and it is this: The markets in the 
United States are presumed to work until such time as there is 
evidence that there needs to be some intrusion to correct a 
market irregularity.
    If you look at most of the regulatory burden that exists in 
the United States, almost all of it came out of a specific 
crisis in the past. All of the agencies that were created--like 
the Federal Reserve Board, the Comptroller of the Currency, the 
FTC, the SEC, for example, were designed around addressing 
specific previous crises.
    So, with much of the rest of the world, what you see is not 
a very permissive, very free market; but rather you instead 
have entities that are allowed to do only what they are 
specifically prescribed to do by law.
    I think that we continue to have a free and open 
marketplace and it is only when there are events like an Enron 
or a WorldCom that create a Sarbanes-Oxley, or a new body of 
law. I think that what we need to do is to make sure that we 
have retained respect for the fact that markets do work and 
that we still do not want to be an environment where 
individuals, who are investors, cannot have confidence in the 
markets.
    Fifty-percent-plus now of all U.S. households are investors 
in one way or another. That fact, I think, has been an 
important consideration for assuring that we have a body of law 
that addresses consumer concerns at the equity investment 
level. We can do that in a way that is still cost effective. 
Things are still out of line, but we are working very hard to 
bring them back into alignment.
    Chairman Kerry. Thanks, Senator, very, very much.
    Just one parting question, if I can, as sort of a summary 
of this. We hear from some venture capital folks around the 
country that Sarbanes-Oxley is sort of a barrier to start-up 
here. Is there any evidence of companies actually making a 
decision to move to Europe or elsewhere as a consequence of 
these rules? It is a derivative of the question asked earlier 
by Senator Tester, but it is something that I have heard lately 
from some very thoughtful and significant D.C. types.
    Mr. Cox. Senator, I, of course, hear the same thing from 
the venture capital community, from their formal association 
and from individuals in the industry, so I think at least in 
some sense, there is a reality to this. It is the firm 
conviction of people in that community that there are serious 
problems and problems that affect their decision making. 
Whether or not upon the completion of our work that will remain 
their opinion is something else. But I think we all know----
    Chairman Kerry. But you are consciously, in the four areas 
you talked about and in your approach to these rules that you 
are refining, you are consciously taking that into account? Is 
that part of what you are factoring into this, or not?
    Mr. Cox. Yes. We are open to the possibility that many 
might persist in their antipathy towards Sarbanes-Oxley, 
notwithstanding the reality, and I think the other part of your 
question might challenge us to provide data and I think the 
answer to that question might be very different. I would be 
happy, by the way, to follow up if you would permit with some 
hard data on that topic----
    Chairman Kerry. We would like to follow up----
    Mr. Cox [continuing]. Because I think we have some.
    Chairman Kerry. I will leave the record open for 2 weeks 
here to deal with the follow-up with you in writing on a couple 
questions because we are pressed for time now, but I think it 
would be important to try to determine some of those things, if 
we can.
    We are very, very appreciative. Thank you so much, both of 
you. Thank you for the work you are doing. You can tell there 
is a lot of serious interest here on this and we will follow it 
very closely and we thank you.
    Mr. Cox. Thank you, Senator.
    Mr. Olson. Thank you.
    Chairman Kerry. Could I ask the members of the second panel 
to come right forward and we will try to continue seriatim 
here.
    First, Tom Venables, the president and chief executive 
officer of the Benjamin Franklin Bank in Franklin, 
Massachusetts, and he is testifying on behalf of the American 
Bankers Association, but I also want to thank Dan Forte and the 
Massachusetts Bankers for their efforts on behalf of the 
financial services industry and particularly addressing these 
concerns.
    We also have Joseph Piche, the CEO and founder of Eikos, a 
high technology company located in Massachusetts.
    And third, we will hear from Richard Wasielewski, the vice 
president and chief financial officer of Nortech Systems in 
Wayzata, Minnesota, a full-service electronics manufacturer. I 
might also note, if my memory serves me correctly, Wayzata is a 
good feeder for hockey players in America.
    Mr. Venables, please lead off. Go ahead.

  STATEMENT OF THOMAS VENABLES, PRESIDENT AND CHIEF EXECUTIVE 
  OFFICER, BENJAMIN FRANKLIN BANK, ON BEHALF OF THE AMERICAN 
                      BANKERS ASSOCIATION

    Mr. Venables. Thank you. Mr. Chairman, I am pleased to 
represent the American Bankers Association's views regarding 
the impact of the Sarbanes-Oxley Act of 2002 on small 
businesses. Chairman Kerry and Ranking Member Snowe, before I 
go further, I would like to thank you both on behalf of the ABA 
for your efforts on this issue and specifically the letter that 
you wrote requesting an additional extension of the Section 404 
compliance date for non-accelerated filers.
    The ABA is very concerned about the huge time and cost 
burdens experienced in complying with the Act as well as 
business opportunity costs. The banking industry has 
significant experience with management reporting on internal 
controls because of the FDIC Improvement Act of 1991, or 
FDICIA, which has long required management reports and auditor 
attestations. Although the Act used FDICIA as its model, the 
rules followed for FDICIA were rewritten for Section 404 
purposes, resulting in excessive work and cost. The burdens of 
Section 404 are also having an impact on non-registrants as the 
AICPA and the PCAOB work to make the auditing standards for 
FDICIA and Sarbanes-Oxley 404 the same.
    For illustrative purposes, my own company, the Benjamin 
Franklin Bank Corp. in Franklin, Massachusetts, a community 
bank with $913 million in total assets, employing 186 people, 
incurred costs of approximately $420,000 and over 2,200 
internal man hours during 2006 to comply with Section 404. This 
represents 6 percent of our normalized 2006 earnings.
    My experience is not unusual. Most community banks have 
similar scenarios. This expenditure of time and money has not 
improved our ability to manage the bank.
    Given my experience with Section 404, I would like to raise 
three areas of concern: The revised and reformed rules, which 
need to be finalized with utmost speed; the implementation of 
the rules, which needs to focus on cost reductions; and the 
application of Section 404, which needs to be delayed for non-
accelerated filers to give them time to adjust to the updated 
rules.
    First, the rules related to Section 404 appear to be 
improving. The SEC and the PCAOB proposals have the potential 
to reduce the cost of compliance for all filers while retaining 
the strong investor protections. The proposed guidance and 
auditing standards need to be finalized, though, with utmost 
speed.
    Another set of rules, those related to shareholder 
thresholds for SEC registration, must be updated. Under the 
Securities Exchange Act, companies are required to register if 
they have total assets exceeding $10 million and 500 or more 
record shareholders. Because nearly all banks exceed the $10 
million threshold, the only criterion of importance is the 
record shareholder threshold. The shareholder level has 
remained at the same level since it was first set in 1964. 
Accordingly, the ABA strongly recommends updating the Exchange 
Act registration shareholder threshold to between 1,500 and 
3,000 record shareholders. The threshold for de-registration 
should also be brought in line to between 900 and 1,800 record 
shareholders.
    Second, the implementation of the rules need to focus on 
cost reductions which will only be realized if the auditing 
firms apply them as intended by the rule makers. The SEC and 
the PCAOB have achieved the proper balance with their 
proposals, but monitoring the results will be extremely 
important in determining the successes of these changes.
    Finally, concerning the application of Section 404, non-
accelerated filers need a delay of the compliance date. It is 
imperative that the rules are successfully implemented and 
tested before requiring non-accelerated filers to comply. It is 
also necessary to provide non-accelerated filers with adequate 
notice, a minimum of one full year in the case of calendar-year 
companies, in advance of the required compliance. This prevents 
the smaller companies from wasting valuable resources on and 
overpaying for unnecessary internal control work.
    We are concerned that during the recent Section 404 meeting 
of the SEC, there was no mention of a specific delay of the 
compliance date for non-accelerated filers. It is urgent that 
the SEC provide relief to these small businesses in a timely 
fashion. Non-accelerated filers are required to produce reports 
this year on internal controls. In order to comply, they must 
decide now whether to follow the old rules or follow the 
recently proposed rules. Placing such a significant time 
constraint on these smaller companies is unreasonable. The 
clock is ticking for these non-accelerated filers and the 
alarms are ringing.
    In conclusion, thank you for holding this hearing and 
allowing us the opportunity to provide our observations to you.
    [The prepared statement of Mr. Venables follows:]
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    Chairman Kerry. Thank you very much, Mr. Venables. That was 
very helpful.
    Mr. Wasielewski?

  STATEMENT OF RICHARD WASIELEWSKI, VICE PRESIDENT AND CHIEF 
            FINANCIAL OFFICER, NORTECH SYSTEMS, INC.

    Mr. Wasielewski. Good afternoon. I would like to thank 
Chairman Kerry, Ranking Member Snowe, and the other Committee 
members for this opportunity to share our company's experience 
and insights into the benefits and costs of complying with the 
Sarbanes-Oxley Act of 2002 and the increased SEC regulations. I 
am also honored to participate in this hearing with Chairman 
Cox and Chairman Olson.
    My name is Richard Wasielewski and I am the Vice President 
and Chief Financial Officer for Nortech Systems, Incorporated. 
To provide some background on Nortech, we are a publicly traded 
Minnesota corporation organized in 1990. We file annual and 
quarterly reports, proxy statements, and other documents with 
the SEC. We are an electronic manufacturing services company 
with facilities in Minnesota, Wisconsin, Iowa, and Monterrey, 
Mexico. We have over 1,100 employees who manufacture wire 
harness and cable assemblies, electric sub-assemblies, and 
printed circuit board assemblies for a variety of original 
equipment manufacturers. Approximately 950 of these employees 
are U.S. employees and 150 are supporting our Monterrey 
operations. The primary markets we serve are industrial 
equipment, medical equipment, military/defense, and 
transportation.
    Our 2006 revenue was just over $105 million, with a net 
profit of $1.3 million, or 1.25 percent. Our industry is highly 
competitive. We are battling against global competitors with 
significant greater resources. We have assets totaling $42 
million and a current market capitalization of just over $20 
million.
    Over the last 5 years, our compliance costs have increased 
almost 2\1/2\ times, from $376,000 in 2002 to $933,000 in 2006. 
We estimate that approximately 50 percent of this increase is 
the result of the cost incurred from the Sarbanes-Oxley 
compliance and internal control initiatives while the other 50 
percent is cost incurred on expanded SEC and Financial 
Accounting Standards Board reporting requirements.
    Despite these high costs, Nortech's board of directors, 
CEO, CFO, and officers fully support the goals and objectives 
of the Sarbanes-Oxley Act of 2002 and believe in the U.S. 
capital markets. The major benefits to date of this Act is the 
assurance and continuous confidence our investors have in our 
company reporting of financial and management performance, 
along with the additional governance from a stronger internal 
control of our financial processes. Our internal control policy 
and procedures are benefiting from a solid structure of clearly 
defined roles and responsibilities, risk assessment, 
monitoring, and corrective actions for continued improvement.
    However, these benefits come at a significant cost to 
Nortech from large administrative costs and fees necessary to 
meet regulations. Our company faces a competitive disadvantage 
against large public companies with great economies of scale, 
as well as private and foreign companies that do not have to 
comply. Our relatively small finance department spends a 
disproportionate amount of time on regulatory compliance 
activities rather than supporting the business and operations.
    Every dollar spent on increased regulatory requirements is 
one dollar less we are able to spend on growth opportunities, 
capital investment, and our ability to attract new investors to 
our company. Every hour spent by me and my staff on regulatory 
requirements is one hour less that can be devoted to overseeing 
the critical financial performance metrics essential for day-
to-day operating decision as well as short- and long-term 
financial planning.
    We know that the SEC and the PCAOB teams are working hard 
to understand the impacts increased regulations and oversight 
have on small business companies such as Nortech. We look 
forward to the new guidance on Section 404 for small companies 
to help us reduce costs and save time in order to keep us 
competitive in our global marketplace and provide our 
shareholders a fair return on their investment.
    We support the Committee on Small Business and 
Entrepreneurship and their request that the implementation date 
of 404 for small companies be delayed from the current 
effectivity date. This delay will allow us to continue to build 
upon our current internal control processes without the time 
and cost pressures the current deadlines have and also allow us 
to field test the new guidance for small businesses.
    In conclusion, we believe the great opportunity and major 
benefits of 404 are already in place. Investors' confidence has 
been restored in U.S. capital markets and improved control 
processes helping companies like Nortech better manage internal 
control systems are in place. For the competitive health of 
smaller U.S. companies like Nortech Systems, it is vital that 
our future compliance burden be scalable.
    Thank you again for the opportunity to participate in 
today's hearings and for the Committee's interest in this 
critical issue to Nortech and small businesses.
    [The prepared statement of Mr. Wasielewski follows:]
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    Chairman Kerry. Thank you very much, Mr. Wasielewski.
    Mr. Piche?

STATEMENT OF JOSEPH PICHE, CHIEF EXECUTIVE OFFICER AND FOUNDER, 
                          EIKOS, INC.

    Mr. Piche. Chairman Kerry, Ranking Member Snowe, and 
members of the Committee, it is an honor to testify this 
morning regarding the impact of Sarbanes-Oxley on small 
businesses. My name is Joe Piche and I am the founder and CEO 
of Eikos, Inc., in Franklin, Massachusetts. We are a small 
nanotechnology company that makes flexible, transparent, 
conductive films and coatings, and Eikos last year won the Wall 
Street Journal's Technical Innovation Award globally for the 
most innovative material in the world.
    We started in 1996 and we have grown to 16 very talented 
people. In 2006, we had approximately $3.5 million in sales and 
our products have applications around the world. We have one 
licensee in Japan. As much of our commercial sales are in Japan 
and Asia, we contribute in a small way to reduce America's 
trade deficit.
    I am pleased with what my team has accomplished, but we 
have reached a point where we need to access capital markets in 
order to expand. We have explored various options and concluded 
the best venue for raising the required capital for expansion 
might lie in the public markets. As such, we have explored the 
options within the United States and concluded that the 
atmosphere for doing so here is less favorable than utilizing 
other public markets, such as the AIM in London.
    I am not an economist nor an accountant nor an expert in 
the details regarding issues of the regulation of public 
companies. I am a chemist by training, and from my perspective 
as an entrepreneur, the atmosphere for raising capital in the 
United States has taken a turn for the worse, specifically with 
regards to going public and the costs associated with 
compliance for a small public company in the United States.
    At Eikos, we believe that some aspects of Sarbanes-Oxley 
have contributed to the current change in the financial climate 
in the U.S. capital markets. While Sarbanes-Oxley has had 
positive impacts, it has made it more difficult for me, a 
private company, and has dramatically increased our costs of 
doing business.
    Let me say from the outset, I believe Sarbanes-Oxley, for 
the most part, is very good legislation. Entrepreneurs like me 
depend on our capital markets, and our capital markets depend 
on trust. Sarbanes-Oxley and the PCAOB have helped to restore 
the trust that corporate accounting scandals have helped to 
destroy. But over time, it has become clear that some of the 
secondary impacts of Sarbanes-Oxley have made it more difficult 
for companies like mine to do business.
    Regarding increased costs, as I have mentioned, Eikos needs 
to raise capital through private equity markets. However, due 
to increased regulations, the costs for our company to obtain 
this equity is extraordinarily high. The accounting costs 
specifically associated with taking a company public are now so 
large they threaten to wipe out the funding that a company like 
Eikos would receive in its IPO. So what is the incentive to 
take the company public when the company will not gain any 
capital as a result?
    The increased cost of accounting has far broader effect on 
a small company than just the question of whether or not to go 
public. Sarbanes-Oxley has increased the price of accounting 
services. I have witnessed a dramatic increase in the costs at 
Eikos. This cost is small relative to the huge resource 
expenditure that public companies are now required to make as 
part of Sarbanes-Oxley. For example, I see other nanotechnology 
companies that have gone public or are public and they are now 
spending more per employee on Sarbanes-Oxley compliance than 
they are spending on health care. This should not be.
    With regards to liability, the increased liability imposed 
by Sarbanes-Oxley makes it simply not worth the risk to serve 
on the board without good D&O insurance. Before Sarbanes-Oxley, 
I could buy insurance for approximately $8,000 a year. 
Immediately after, the price shot up to approximately $40,000 
to $50,000, a substantial increase. And it is not the same 
policy. The deductible went up and the coverage is much less 
comprehensive.
    At Eikos, we offer the best available health insurance. 
This is something I refuse to compromise because I do not want 
my employees to ever worry about their health or the health of 
a family member. But the high cost of D&O insurance forced me 
to make a decision between maintaining this high standard of 
health insurance versus maintaining D&O insurance. Hence, I 
have lost board members because of the lack of our D&O 
insurance.
    Driving investment overseas, it is our transparency and 
accountability that inspire the global investment community's 
confidence in American markets, and that attracts investments 
from around the world to the United States. Sarbanes-Oxley was 
designed specifically to strengthen the world's confidence in 
our markets and thus attract even more foreign investment. This 
was a noble goal and in many ways has succeeded well. But in 
some ways, it has gone too far. Some of the very requirements 
of Sarbanes-Oxley that were designed to restore global 
confidence in the American markets by creating tremendous 
financial incentives for private companies to go public not in 
the United States, but in other countries. By increasing the 
costs of going public in the United States, Sarbanes-Oxley is 
giving foreign capital markets a competitive advantage over 
American markets.
    Eikos has considered carefully going public on the London 
AIM exchange. We estimate the cost in the United States to be 
approximately $2 million, but only $500,000 to $600,000 on the 
AIM. We are by no means alone. In foreign markets, the 
percentage here has increased in the last several years whereas 
the United States has held relatively stagnant or decreased.
    In conclusion, I would like to thank you, Senator Kerry, 
for your leadership in sponsoring legislation to help make it 
easier for small businesses to comply with Sarbanes-Oxley. I 
would also like to thank the members of the Committee for your 
ongoing commitment to support small businesses like Eikos. 
America's small businesses are the engines of innovation and 
employment and they are absolutely essential to our continued 
competitiveness in this century.
    [The prepared statement of Mr. Piche follows:]
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    Chairman Kerry. Thank you very much, Mr. Piche.
    Let me just pick up with you, since you testified last. So 
what would you do? What is the balance here?
    Mr. Piche. What would I do today? I would use the London 
AIM because I utilize the concept of Ockham's razor. When you 
have two different alternatives, I take the simpler and the 
more cost effective for the company, because as the CEO, it is 
my duty to do that which provides the most benefit to the 
stockholders and the employees, many of which are stockholders.
    Chairman Kerry. How do you do that and maintain the 
integrity that everybody has fought for? There are a lot of 
folks who believe that the London standard, in fact, has no 
minimum size requirements, no minimum public float, no minimum 
share value, no government review of company disclosure 
documents, and so, in effect, they are exempting people from 
the full code of corporate governance. I mean, the so-called 
``attraction'' is to go back to the Wild West.
    Mr. Piche. I understand what you are saying. I am not an 
expert in this area. However, as a CEO, I am focused on the 
growth of the corporation and, therefore, our perspective is we 
care very much about corporate governance and we are not in a 
position to make decisions regarding how the law should be 
changed or modified in any way. However, we would like to run 
Eikos in a right, good, and proper way. When we talk to the 
people that come to our company, knocking on our doors as 
representatives of the AIM, often unsolicited, we----
    Chairman Kerry. Is that what is happening? They are coming 
over here and come to our market because we are----
    Mr. Piche. That is correct, yes. It has happened to us at 
Eikos, so----
    Chairman Kerry. Well, I wish--again, this is the problem 
you have when you have the order of testimony, and we tend to 
do this on all our committees here, the regulatory folks first 
and then they are gone. It would be good to get the 
interaction, actually. I think in the future, I am going to try 
to see if we can't set it up that way a little better.
    Obviously, the testimony of Chairmen Cox and Olson is that 
they are moving in Europe to adopt a similar standard here. 
Now, the AIM actually contradicts that, and in fact, there was 
a pretty dramatic example recently of a company that placed a 
convertible loan stock on the market. It knew its financial 
performance was going to fall short, and when they prepared a 
news release to that effect, the investment banker advised them 
to withhold it until after the offering was complete, and they 
did, and then, of course, the news came out and it lost 75 
percent of its value in 2 days and it got a tiny slap on the 
wrist. I mean, it was like nothing had happened. So again, that 
is clearly not the standard that we want to go back to.
    Mr. Piche. Correct.
    Chairman Kerry. We would like to see people move rapidly to 
here. I assume we may be losing a few folks who want to go out 
into that kind of an atmosphere, but I am sure that investors 
broadly, as they look at the movement of capital and the safety 
of that capital, are going to ultimately have some problems 
with that.
    Mr. Piche. Possibly. However, the way we look at it at 
Eikos, if I may say so----
    Chairman Kerry. Yes.
    Mr. Piche [continuing]. Is that our example is if we are 
going to put an addition on a home and we needed to borrow 
$250,000 for an addition for new bedrooms for children or such 
and we have the opportunity to get it from bank one at a 
certain rate, but we can get it at bank two at half the rate, 
we will get it at bank two at half the rate, end of discussion. 
We go in the direction of----
    Chairman Kerry. So the bottom line----
    Mr. Piche [continuing]. What is best for the----
    Chairman Kerry [continuing]. Will drive it no matter what? 
Mr. Wasielewski, you are nodding your head in assent there. Do 
you want to add on?
    Mr. Wasielewski. Yes. It gets back to the cost versus the 
benefit. Is it worth it?
    Chairman Kerry. I am struck. You are on a pretty tight 
profit margin.
    Mr. Wasielewski. Yes, we are, and----
    Chairman Kerry. With that kind of revenue, that surprised 
me.
    Mr. Wasielewski. We need the different markets to raise 
capital. We believe in the U.S. markets. It is our next area to 
raise capital and cash to fund our growth, but we also have to 
balance that against venture capital and even going private. So 
we do that on a constant basis and it is reviewed on an annual 
basis, sometimes more often.
    Chairman Kerry. And your net view of Sarbanes-Oxley is--I 
mean, you seem to support in your testimony the notion of 
having this kind of accountability, but you have a ``but'' 
there, right?
    Mr. Wasielewski. Yes, absolutely. It is getting to where it 
is working--it was encouraging to hear the discussion earlier 
that they are working towards it, that they are taking our 
scale into consideration. I am concerned that when these 6,000 
other filers hit the marketplace, what it is going to do to the 
cost again to the accountants and auditors and services that 
are going to be needed. Is that going to do another bump in our 
costs that you have on the board? Are they going to go higher? 
Are they going to be 26 cents and $2? That is a real concern of 
ours. So they really have to keep that cost-benefit under 
control.
    Chairman Kerry. Mr. Venables, you all heard the testimony 
of the folks who preceded you. I know I have heard this from 
bankers previously about the FDIC experience and so forth and 
that the 404 seems to go beyond that and you felt that it was 
adequate, and there is every indication that it was adequate, 
as a matter of fact. Were you satisfied that what they said is 
going to sufficiently take into account the concerns you all 
have expressed?
    Mr. Venables. Only partially, Mr. Chairman. If I can give 
you a little example from our own company, in 2002 when I 
became CEO of Benjamin Franklin Bank, the bank had run amuck of 
some regulatory matters and there was a requirement for a new 
CEO to come in and I was part of that change. At the time, the 
bank was $450 million in size. It was not required to be FDICIA 
registered in any way, but I made the decision as a new CEO 
that I wanted to make sure I understood the controls. I wanted 
to make sure we had a proper framework for risk.
    And so we did an early adoption of FDICIA and voluntarily 
implemented those controls and I had a very powerful management 
tool out of the FDICIA exercise to enable me to understand 
exactly how this company was running and what changes needed to 
be made. We emerged from the excess regulatory oversight almost 
immediately and enjoy a very, very high rating in all of our 
areas, especially in our compliance areas.
    Now, in 2005, we did an initial public offering. Obviously, 
we become affected by Sarbanes-Oxley. In 2006, we became an 
accelerated filer and needed to go through that whole exercise 
as I outlined. That whole exercise resulted in these tremendous 
costs as we have outlined, and yet I did not pick up any 
additional ability to better manage our company. I think that 
is the big frustration.
    When I hear the PCAOB and the SEC talk about reforms, I am 
greatly encouraged. We think that is definitely heading in the 
right direction. But there are a couple caveats. The first is 
the devil will be in the details, and unfortunately, as a new 
Accounting Standard 5 is being evolved, there are decisions 
that need to be made today by managements of companies who are 
non-accelerated filers with respect to how they need to 
implement these controls and to which standards are they 
needing to adhere. I think ABA is very troubled by the fact 
that until those standards are actually in place, it is unfair 
to set deadlines for compliance and we really feel that there 
should be a full year after the final rules are generated 
before smaller companies----
    Chairman Kerry. Sure. Well, I see the folks who are here 
taking some notes on that. I think that is an important thing 
for us to convey and to have some dialogue with the folks who 
testified previously.
    Senator Snowe and some of my colleagues will draw this out 
a little more, so let me cede my time here.
    Senator Snowe. Yes. To follow up on that delay, were you 
suggesting a year delay from----
    Mr. Venables. We are suggesting a year delay from when the 
final rules have been put in place and tested. Our concern is 
that it is changing rapidly. My own experience as a company, I 
know that the Chairmen feel that implementation sometime in 
June would be adequate for the controls that are necessary for 
the year-end financial statements. I assure you they are not. 
There are two things happening at once.
    One, there is a tremendous resource drain, and by that, I 
mean not only the internal small business staffers who need to 
put all this in place, but also the outside experts. They all 
will have this crush of companies that need to comply and the 
meter runs very high in those types of scenarios.
    Secondly, the way the rules work and the proper framework 
is that you build the framework and then you test. You may find 
as a result of the test that you have a deficiency. If you find 
you have a deficiency, then you need to fix that and then 
retest. Every one of those cycles is a 3-month--is a quarterly 
cycle, so that if you do have control issues that need 
addressing, you may not have an opportunity to address them and 
have them implemented by the time of your annual statements at 
the end of the year, and that could have serious repercussions.
    Senator Snowe. I see. So when you are talking about non-
accelerated filers, they haven't done any testing on those 
standards, or audited those standards, because they haven't 
been put in place?
    Mr. Venables. That is correct.
    Senator Snowe. So when they were talking about the various 
dates, March 2009, the date companies need to have the auditors 
review their company's internal controls, does that apply to 
non-accelerated filters?
    Mr. Venables. I think that is what they are addressing, 
yes.
    Senator Snowe. But that is not sufficient because companies 
need to furnish their assessment of those controls in March of 
2008.
    Mr. Venables. Senator, if the rules were in effect today, 
that could very well be sufficient.
    Senator Snowe. OK. So it is just a matter of time, that is 
the big question.
    You mentioned the fact of increasing the number of 
shareholders--the current is 500 to 1,500 or 3,000. Can you 
explain how that would benefit community banks, for example?
    Mr. Venables. Certainly.
    Senator Snowe. What would be the benefit of that?
    Mr. Venables. It is one of these issues that existed, and 
then with the advent of Sarbanes-Oxley and all of this talk it 
became a much more critical issue. Today, the threshold for 
non-filers is the 500 record shareholders and the $10 million 
in assets. Well, in banks, we all have more than $10 million in 
assets, so it is the 500 shareholders. The standard was set in 
1964.
    Over the course of the years, in these small, rural in many 
times, banks, there may be generations that are inheriting the 
stock, and where you might have had one holder, now you have 
three children and then you might have five grandchildren, and 
over time, the number of shareholders has crept larger. The 
statute has not changed at all to keep up with the number of 
investors.
    ABA did some research and determined that, and you can pick 
any standard, but one that they found was a reasonable approach 
was let us look at the number of shareholders there are out 
there in the investing public back in 1964 and let us look at 
the number today, and if we apply that same rate of growth, the 
500 threshold limit of 1964 would be more like the 1,500 to 
3,000, depending on how you interpret the data, of today. So it 
is merely trying to have that change sort of indexed for the 
fact that there are many more investors and there are small 
companies that have a tough choice, because if they go over 
500, they become registrants. They can't necessarily--there is 
still an investment opportunity----
    Chairman Kerry. It is still small income.
    Mr. Venables. Yes.
    Senator Snowe. I know that some of the banks that I have 
heard from in Maine are having to both comply with the banking 
regulations as well as Sarbanes-Oxley. Is there no way to 
consolidate any of these requirements?
    Mr. Venables. Well, I don't think there is a way to 
consolidate all of it, but I think a lot of the auditing 
standards can be made similar so that we are not doing a 
completely different controls framework by one set of standards 
and then also maintaining FDICIA. I will tell you in the case 
of my own company, you may know that the FDICIA standard has 
now gone to $1 billion. Well, we are a $913 million company and 
we have decided to continue with FDICIA controls because we can 
discontinue perhaps this year, but with any growth, we will be 
facing them again. So we are maintaining two sets of intense 
risk management frameworks and I don't think that is necessary.
    Senator Snowe. Thank you. Mr. Wasielewski and Mr. Piche, 
could you tell me, was there anything that you heard from both 
Chairman Cox and Mr. Olson with respect to the issues that they 
addressed in harmonizing the audits, any of the issues that 
made it more positive?
    Mr. Wasielewski. Let me take that. The integration audit is 
really important because that could help us greatly on costs. 
You are working with the same audit team. I think that comment 
has probably got the biggest benefit that would be the biggest 
step that could be taken. The fear is to have a different audit 
team in there and have to reeducate them just like you do on 
your financial statements. These folks know our business. They 
know our processes already. That could be a definite benefit, 
so that is an encouragement.
    Senator Snowe. And you mentioned scalability. Do you think 
that it addresses that in that sense, that it avoids the one-
size-fits-all?
    Mr. Wasielewski. I don't know.
    Senator Snowe. Yes.
    Mr. Wasielewski. Based on what he said, I have a feeling 
that is the tough nut in how they go about trying to get that 
equal on that slide behind you in the future.
    Senator Snowe. Right.
    Mr. Wasielewski. We just get the higher price of audit and 
auditors and accountants by supply and demand, I think, is the 
biggest issue that we are going to face.
    Senator Snowe. That is why we need to get an updated 
assessment of the costs, you know, for every $100 revenue, it 
is $1.14 in audit costs.
    Mr. Wasielewski. Remember, there are only a couple thousand 
that file today and, 6,000 that haven't filed yet. That work 
hasn't been done on our side and the impact isn't on theirs 
either. We have done a lot. We have improved the internal 
control. We feel it is a lot better. I know our investors do. 
It is just that it would be nice to field test what they are 
proposing right now, so we could understand the impact or it 
might even be more.
    Senator Snowe. Mr. Piche?
    Mr. Piche. Regarding that specific question?
    Senator Snowe. Yes, that is right. Yes. Was there anything 
that you heard that was more positive that might affect the 
bottom line?
    Mr. Piche. My concern is that I didn't necessarily hear a 
clear pathway that I understand, but again, I am not a 
professional accountant or regulator, I am a chemist by 
training and an entrepreneur, and my fear is that it sounds 
slightly more complex, because then there is now another level 
of making determinations and definitions as to, well, what 
should be audited and where do the limits begin and end. So 
there might be another layer of requirements on top of the ones 
that already exist.
    Senator Snowe. And in your particular situation, would you 
wait to see how, this all shakes out in the process?
    Mr. Piche. We cannot.
    Senator Snowe. No, you cannot.
    Mr. Piche. No. I think no small company can. It is a global 
economy. My competition is everywhere.
    Senator Snowe. Right. It is interesting because the GAO did 
a study of IPOs in the period between 1999 and 2004 and showed 
a decrease of IPOs, from 70 percent to 46 percent. So it would 
be interesting to know exactly where that stands today. I think 
that is true, because the initial capitalization is extremely 
important for any small company, small public company. This is 
a real issue, because you are really the essence of job 
creation in many ways. When you grow from a small business to a 
public company, that is where the innovation emerges.
    So I think this is something we are going to have to 
examine. At the same time we must make sure we calibrate the 
right approach and preserve the public interest in response to 
what happened with Enron and WorldCom.
    Thank you. I appreciate your comments here today. Thank 
you.
    Chairman Kerry. Thank you.
    Senator Coleman?
    Senator Coleman. Thank you, Mr. Chairman. I associate 
myself with the comments of the Senator from Maine in terms of 
what we have to do here. Just two quick questions--and by the 
way, this has been a very good hearing, very helpful. We have 
talked about or just touched upon various issues--willingness 
to serve on boards, what kind of direction and leadership are 
going to be available to small business if folks find it 
difficult or impossible to serve on boards, and the cost of 
accounting, and then as the system grows, the pressures of 
supply and demand is just going to push up the costs. So we 
haven't capped out costs here. If anything, they are going to 
rise significantly.
    Just two quick questions. Mr. Venables, you made the point 
about the need for delay perhaps of 1 year for those non-
accelerated filers, but the other point, then, I take it, is 
that it is urgent that that decision be made soon. That has got 
to be one of the factors. Rather than wait for us in Congress 
to do something, it is my sense you need to know soon whether 
there will be delay for that year?
    Mr. Venables. Certainly, Senator Coleman, and in 
conjunction with that, as well, the work that you heard PCAOB 
and the SEC working on together with respect to the new audit 
standards also needs to be finished as quickly as possible.
    Senator Coleman. I hope, again, staff is listening. It goes 
to the Chairman's point about having folks here to hear that.
    Mr. Wasielewski, you were actually very positive about some 
of the changes but talked about cost. I don't know if I heard 
this. Have you thought about going private? In spite of you 
being profitable, you have got a really thin line here. You 
make, what, one point, you spend about as much on auditing as 
you make in profit.
    Mr. Wasielewski. Yes.
    Senator Coleman. Where are you at on that decision?
    Mr. Wasielewski. Well, I think the board and our CEO and I 
and the officers review it on an ongoing basis. Again, we do 
believe in the U.S. capital markets and that that is a good 
place for us to get some cash and invest in our business. So 
right now, that is the strategy. As these things grow and these 
things pan out, you know, they are always taken into 
consideration. It is a dynamic decision point. We do review it, 
not at every board meeting, but at least one time a year, that 
particular situation.
    Senator Coleman. So it gets to that question of balance and 
at certain points the balance tips over and says, we can't 
afford to be in this public market. We just have to go private.
    Mr. Wasielewski. And again, it is a balance of benefits and 
cost. I think everybody said that. It is definitely, and I 
think nobody would disagree that it is definitely weighted now 
on the costs. The benefits are in place the last 5 years. Our 
internal controls are better. Most small companies are better. 
It is the question of how much more better do we have to get 
and at what cost.
    Senator Coleman. Mr. Chairman, thank you.
    Chairman Kerry. Thank you very much.
    Yes, Mr. Venables?
    Mr. Venables. If I may make one follow-up comment on the 
cost, we have been concentrating, I think, a lot on the first-
year cost, and I do want to share with you an illustration of 
subsequent costs because I think they are important, as well. 
In 2005, our bank went public and had an acquisition, so 
obviously we had substantial audit costs related with those 
transactions. In 2006, we implemented Sarbanes-Oxley. We had 
substantially higher audit costs. Our auditors tell us that our 
budget for 2007 is less than 2006. The second-year costs are 
lower than the first-year costs, but they are still 
substantially higher than 2005, the year that we went public 
and the year that we made an acquisition. So it is embedded as 
an additional layer that that will go on for earnings.
    Senator Snowe. May I?
    Chairman Kerry. Yes.
    Senator Snowe. Do you think that there has been an impetus 
to shift from public to private companies? I mean, there has 
been a lot of shift in that respect. Do you think that this has 
been an impetus for that?
    Mr. Venables. From my own experience, I can tell you that 
in the banking industry, there are certainly many banks that 
have delayed going public for this reason.
    Senator Snowe. Because of the costs and because of the 
complexity of the regulations?
    Mr. Venables. Exactly.
    Mr. Wasielewski. Let me just add to that. It is not only 
Sarbanes-Oxley and the internal control, it is all the SEC 
regulations and compliance stuff that have taken place. Our 
10(k) in 2002 was 47 pages long. This year, it is 95 pages 
plus. It is a substantial amount of work to meet these 
requirements and we are not even at the Sarbanes-Oxley 
attestation point yet, so it is not only the internal control.
    Senator Snowe. Thank you.
    Chairman Kerry. This is tough stuff. If I could just ask 
Mr. Piche, speaking generally, to come back to the VC question 
I asked earlier. Is it, in fact, making it harder to find 
investors rather than easier? As the argument is made, because 
there is an assurance of the openness and accountability, do 
investors feel safer or is it harder?
    Mr. Piche. From the investors' perspective? Well, from the 
CEO's perspective whose ambition it is to raise money to grow 
the corporation, from the many CEOs that I know, I think we 
uniformly believe that it has become more difficult. I was at a 
meeting of the Nano Business Alliance yesterday and I talked 
with many CEOs over the course of 2 days in Manhattan. I had 
the opportunity to be on the floor of the NASDAQ yesterday at 
the closing as part of that and it was fun. But I hear 
anecdotal stories often, in taxi lines, from friends of mine 
that are CEOs of small public companies, and we see the same 
thing, which is that it is harder to raise funds privately 
because of it and it is harder to raise funds publicly and the 
costs associated are substantial.
    Chairman Kerry. I am particularly struck by the issue on 
the banks, and I think that it would be important for the SEC 
and the PCAOB to look hard at this issue of the FDIC 
Improvement Act requirements and what the banks are already 
jumping through and this question of harmonization, because I 
have heard this from small bankers all over the country. What 
was it that you said? You said 6 percent--who said 6 percent? 
Who said 6 percent of your profits are----
    Mr. Venables. Six percent.
    Chairman Kerry [continuing]. And that is above what you 
were already committed to the FDIC?
    Mr. Venables. Oh, yes. That was just incremental costs----
    Chairman Kerry. That is an incremental cost, an additional 
6 percent of profit, on a $406,000----
    Mr. Venables. Exactly, for the implementation effort.
    Chairman Kerry. I think that is something that folks really 
need to think about hard, especially when there is a pretty 
strong individual regulatory process already in place, whether 
there is a harmonization process and whether that is sufficient 
and, therefore, all that is required. I mean, that is a 
judgment. You talk about risk assessment and judgment. The risk 
assessment ought to be made with respect to that standard, 
whether or not it is adequate for the industry, since it is an 
industry-wide standard.
    I served on the Banking Committee for 10 years and I was 
there when we did the RTC and went through that horrible 
period, and I think that since then, we have already responded 
to the crisis of confidence in the marketplace and there is no 
evidence at this point, in my judgment, that it is somehow 
being abused. So again, there is an example potentially--I am 
saying potentially--of where this double requirement may, in 
fact, really be a drag on our economy and a drag on business.
    So there is a lot to look at here and I want to--I am 
confident that Senator Snowe wants to join with me, and we will 
team up to put some thoughts in front of the Chairmen. I think 
this has been very important and very, very helpful today.
    Senator Snowe, do you have any additions?
    Senator Snowe. No. I thank you. I appreciate it, but I 
think it does underscore the serious challenges and impediments 
that you face. We just really have to make sure that we 
reasonably understand the impact and the severity of the 
burdens of these regulations. On one hand, we have to address 
the public interest question, and on the other hand, we have to 
make sure that we develop and encourage job creation through 
your leadership. These are not mutually exclusive endeavors. I 
am sure that we can try to get this right, and that is what we 
will attempt to do through some legislative mechanisms, as 
well. So I appreciate your thoughtfulness and your comments 
here today.
    Chairman Kerry. Thank you very, very much. Again, thank you 
very much, all of you. We appreciate it.
    We stand adjourned.
    [Whereupon, at 12:33 p.m., the Committee was adjourned.]
      

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   Responses by PCAOB Chairman Olson to Questions from Chairman Kerry
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[GRAPHIC] [TIFF OMITTED] 39880.109

[GRAPHIC] [TIFF OMITTED] 39880.110

   Responses by PCAOB Chairman Olson to Questions from Senator Snowe
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[GRAPHIC] [TIFF OMITTED] 39880.112

[GRAPHIC] [TIFF OMITTED] 39880.113

   Responses by PCAOB Chairman Olson to Questions from Senator Pryor
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[GRAPHIC] [TIFF OMITTED] 39880.115

    Responses by PCAOB Chairman Olson to Questions from Senator Enzi
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[GRAPHIC] [TIFF OMITTED] 39880.117

[GRAPHIC] [TIFF OMITTED] 39880.118

    Responses by Richard Wasielewski to Questions from Senator Pryor
    Question 1. You have a copy of the letter sent to SEC Chairman Cox 
and PCAOB Chairman Olson from Senators Kerry and Snowe, as well as the 
SEC and PCAOB responses in the binder. [The referenced letters appear 
in Appendix Material Submitted on pages 126-131.] The SEC response 
notes that four separate extensions have been given to small businesses 
regarding compliance with Section 404 of the Sarbanes-Oxley Act, with 
the most recent extension granted on December 2006. The December 2006 
extension said that non-accelerated filers (less than $75 million in 
market cap) had to comply with Section 404(a) providing management's 
assertions on internal controls for calendar years ending after 
December 15, 2007, and with Section 404(b) external auditor's internal 
controls audit for calendar years ending after December 15, 2008.
    Given that the SEC granted four extensions in order for small 
businesses to have more time to comply with Sarbanes-Oxley Section 404, 
what have you been doing during this time to get your own company's 
internal controls in order? What challenges have you found? Have you 
discussed this with your external auditor?
    Response. [Submitted in a question and answer format as follows:]
What have you been doing with the extension time?
    Our relatively small finance department continues to spend a 
disproportionate amount of time on increasing regulatory compliance 
rather than supporting the business and operations. When time permits 
we are implementing internal control policies and procedures with 
clearly defined roles and responsibilities, priority management, risk 
assessment, monitoring, and corrective actions for continued 
improvement according to generally accepted best practices and the 
latest guidance. We have been able to use this time to draft and 
organize a formal document of our internal control policy and 
procedures. We are currently working on updating this document and 
beginning to develop test plans and tracking of our critical and 
material control points. The final step will be to formalize the 
management assessment process.
    An additional extension will allow us to continue to build upon our 
current internal control processes without the time and cost pressures 
of the current deadlines and requirements as well as, have a chance to 
review and incorporate the new SEC and PCAOB interpretive audit 
standard guidance for management assessment and auditor reporting.
What challenges have you found?
    Our challenge continues to be the time required to develop and 
implement a formal and documented internal control process while trying 
to support our business and the increased compliance costs of our 
audit, consulting and GAAP advising fees due to the increased demand 
for auditor resources.
Have you discussed this with your external auditor?
    We have as part of our audit committee meetings continued to update 
our auditor on our progress. They are waiting to see what the new 
guidance will be and to what extent we can incorporate into our 
internal control plans this year given the late release date.
    Thank you again for the opportunity to provide additional input to 
the committee.
                               __________
       Responses by Joseph Piche to Questions from Senator Pryor
    Question 1. You have a copy of the letter sent to SEC Chairman Cox 
and PCAOB Chairman Olson from Senators Kerry and Snowe, as well as the 
SEC and PCAOB responses in the binder. [The referenced letters appear 
in Appendix Material Submitted on pages 126-131.] The SEC response 
notes that four separate extensions have been given to small businesses 
regarding compliance with Section 404 of the Sarbanes-Oxley Act, with 
the most recent extension granted on December 2006. The December 2006 
extension said that non-accelerated filers (less than $75 million in 
market cap) had to comply with Section 404(a) providing management's 
assertions on internal controls for calendar years ending after 
December 15, 2007, and with Section 404(b) external auditor's internal 
controls audit for calendar years ending after December 15, 2008.
    Given that the SEC granted four extensions in order for small 
businesses to have more time to comply with Sarbanes-Oxley Section 404, 
what have you been doing during this time to get your own company's 
internal controls in order? What challenges have you found? Have you 
discussed this with your external auditor?
    Response. [Mr. Piche's response to question 1 was not available at 
the time the hearing record was printed.]

    Question 2. There are intangible effects of Sarbanes-Oxley that 
impact corporate management. The requirements that the CEO and CFO 
certify their company's financial statements, coupled with the Act's 
implicit notion that the directors are ``gatekeepers'' capable of 
preventing fraud, has focused boards of directors on compliance matters 
instead of corporate strategy; anecdotal evidence suggests that more 
time is spent on compliance in today's boardrooms than on the business 
of the company. Mr. Piche, in your testimony you mention the increase 
in the cost of Directors' and Officers' (D&O) insurance, an increase of 
500 percent since the Act's enactment, and that the increased liability 
imposed by the Act makes it simply not worth the risk to serve on a 
board of directors without insurance. Please explain what other impact 
the Act has on the board. Is there evidence to suggest that directors 
spend more time on compliance issues rather than corporate strategy?
    Response. [Mr. Piche's response to question 2 was not available at 
the time the hearing record was printed.]
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                       COMMENTS  FOR  THE  RECORD
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