The comeback of SOX: Are businesses ready for the challenges?
The Sarbanes-Oxley Act of 2002 (SOX) has been in place for many years, and US-listed companies are well-practiced in complying with it. Indeed, they are so well practiced, in the years following its introduction, the cost and effort of complying has declined significantly, as SOX has become ‘business as usual’.
However, in recent years, and contrary to expectations, the cost and effort of SOX compliance has started to increase again. A Protiviti 2017 report entitled ‘Fine-tuning SOX Costs, Hours and Controls’, highlights that for two out of three companies, SOX compliance hours have increased by more than 10 percent since 2016.
A significant driver for this the US Public Company Accounting Oversight Board (PCAOB) are coming down hard on auditors for audit failures and violation of the Board’s quality standards to enforce SOX compliance by organizations. Faced with potential fines in the region of millions of dollars, auditors are redoubling their efforts to scrutinise their clients’ internal audit controls over financial reporting, assessing and responding to risks of material misstatement, and measurements.
One impact of this is that auditors are extending their audit scope to cover business processes that make extensive use of spreadsheets.
In the past, SOX compliance has driven business towards using centralised IT systems, where the SOX compliance controls for business processes are available ‘out-of-the-box’. In the past auditors have reviewed these controls and outputs as part of their normal audit duties. CEOs and CFOs have used these reports and controls to sign-off on shareholder reports that comply with the regulations.
Now auditors are extending client audits to cover their spreadsheet estates, as they recognize how pervasive spreadsheets are in many key SOX-related business processes, which might include cost management controls, revenue recognition processes and controls, as well as separation of duties.
This reflects the way spreadsheet have remained central to key business processes – despite the widespread use of complex corporate IT systems – as users wish to leverage the power and flexibility of spreadsheets to bridge the gap between what the business needs now and what IT can provide in a timely way. This is also reflected in the Protiviti report mentioned above, which found that 64% of their respondents had experienced increased focus on their deficiencies by their auditors.
The spreadsheet challenges of SOX
Spreadsheets remain an invaluable resource for businesses, because their ease of use, flexibility and powerful functionality, helping them remain agile, generate new insights, model the development of their business, as well as provide accurate and timely reports.
In a SOX context, this very power can be a source of problems, if the key spreadsheet estate is not managed effectively. It works in two ways.
Firstly, the very flexibility of spreadsheets means that errors can quickly emerge in spreadsheets, which can then materially affect the accuracy of results. The scope for this spreadsheet risk can grow significantly if complex formulas or macros are used, or if a spreadsheet is linked to other spreadsheets, or other applications or data sources.
In the SOX framework, these results can easily, if unwittingly, generate reporting errors that can compromise the quality of financial reports. There are numerous examples of businesses having the restate their earnings through calculation errors in their quarterly or annual reports. This can cause a host of reputational, regulatory, commercial and legal headaches.
The other problem is the absence of data governance and controls in Excel estates prevent Corporate Officers from being able to signoff the results as being an accurate picture of the company’s results. If they, or their auditors, are unable to verify the results generated by business processes underpinned by its key spreadsheets, due to inadequate controls, then they would be in violation of SOX and would likely be subject to a range of sanctions.
Sharing the mantle of importance with enterprise systems
Organizations need to grant spreadsheet applications the same level of importance as their highly controlled and maintained enterprise systems – without removing any of the powerful capabilities, flexibility and sheer business value that spreadsheets give to users and the business alike. This will help them overcome the challenge of the extra scrutiny they face from their external auditors for SOX compliance, while to ensuring the business remain dynamic and flexible.
Best practice approach to spreadsheet management for SOX compliance
A best practice-led approach to spreadsheet management is now indispensable for SOX compliance. Typically, it involves a three-step process. Initially organizations need to conduct a process of discovery to get visibility of how spreadsheet are used in their SOX processes. This visibility will enable them to identify the key spreadsheets that affect SOX compliance, and their often complex relationships with other spreadsheets, applications and data feeds. This allows them to risk assess these files, so they can be tiered and inventoried based on the risks they pose to SOX compliance (and indeed broader governance), and their criticality to the business. A monitoring process can be used to identify approved changes to these spreadsheets as well as highlighting flaws that can impact the quality and accuracy of company reports. This capability also provides the auditability of the critical spreadsheet estate that mirrors that found in the corporate IT environment.
This approach, leveraging automation, allows organizations that need to comply with SOX the same levels of visibility and auditability that have long benefited the corporate IT function. It also ensures that users retain the power and flexibility that spreadsheets provide. This approach helps the ‘square the circle’ of managing spreadsheets under SOX, and should allow business to reduce, once again, the time effort and resource applied to SOX compliance. It can also provide peace of mind for managers, knowing they have all their SOX bases covered.
By Henry Umney, CEO, ClusterSeven
What’s Causing the Global Supply Crunch?
As the global economy gradually recovers from the impact of COVID-19 pandemic, worldwide supply crunch is intensifying, spreading not only from one country to another, but also from one industry to another.
A year ago, when the pandemic continued to spread, economies around the world were severely hit and there was panic buying among consumers. Today, it is companies that are trying to go on a stockpiling, buying more raw materials than they need to keep up with rapidly recovering demand. The panic buying is fuelling more shortages of raw materials, including copper, iron ore, steel, corn, coffee, wheat, soybeans, wood, semiconductors, plastics, cardboard, etc. As a result, inventories of seemingly every raw material around the world are running low. “You name it, and we have a shortage on it,” Tom Linebarger, chairman and chief executive of engine and generator manufacturer Cummins Inc., said earlier, and he noted that his clients are “trying to get everything they can because they see high demand”.
Supply shortages have driven prices up significantly, with the impact of rising prices for some key raw materials being significant. The prices of various industrial raw materials such as crude oil, plastics, and chemicals are rising. Some of the impacts of higher raw material prices have already begun to be reflected in consumer goods. Reynolds Consumer Products Inc., the maker of the namesake aluminium foil and Hefty trash bags, is planning another round of price hike, and this will be the third for the increase this year alone. Food prices are also climbing. The price of palm oil, the world's most consumed edible oil, has risen more than 135% over the past year to record levels; soybeans have topped USD 16 a bushel for the first time since 2012; corn futures prices have touched an eight-year high, and wheat futures prices have risen to the highest level since 2013.
Changes in factory orders due to the impact of the pandemic have also tightened supply in some markets and pushed up prices for raw materials. Some knitting enterprises in Dongguan, Guangdong, said that affected by the pandemic, about 40% of the orders have come back to China from countries such as India and Southeast Asian countries, while the factory utilisation rate has increased by about 30% to 40%, and now it has reached 100%. In Jiangyin, Jiangsu, a bedsheet enterprise adjusted its production capacity to accommodate a USD 20 million order from Southeast Asia. Increased demand from the textile industry has led to tight supplies of raw materials. In Wujiang, Jiangsu, where polyester filament yarn is the most in demand, the shortage of raw materials this year has been unexpected, especially in the current off-season, when there is not much stock. In Suzhou, also in Jiangsu, the export of polyester filament yarn increased by nearly 60% from January to April, while the price increased by 40% to 60%. Compared with the same period last year, the price of filament yarn increased by RMB 2000-3000/ton.
Remarkably, this hoarding frenzy is pushing global supply chains to the brink of collapse. Inventory shortages, transportation bottlenecks, and price increases are nearing critical levels, raising concerns that strong global growth could fuel inflation. The supply disruptions in the past are simply incomparable compared to the severe inventory crunch of 2021. Industry insiders predict that both large and small enterprises will be affected by this supply shortage.
Why are current supply shortages so acute?
Researchers at ANBOUND believe that instead of having one single factor, there are multiple reasons for the emergence of complex systemic problems.
First of all, there is the recovery in demand as the pandemic is brought under control. This year, as vaccination rollout efforts have brought the pandemic significantly under control in the United States and some European countries, the economy has begun to show significant momentum for recovery. This trend prompted a near-simultaneous recovery in most markets around the world. The collective recovery of global markets has led to a near-simultaneous increase in demand, exacerbating the mismatch between supply and demand. In the case of commodity futures, the capital was collectively bullish on commodities under such expectations, significantly driving up the prices of commodities (mostly upstream commodities) and spreading to midstream and downstream commodities. It should be noted in particular that the surge in demand for certain specific commodities under the pandemic has also exacerbated the supply-demand mismatch in some industrial chains. For example, the increase in the need of remote, online working and studying has increased the demand for all kinds of electronic products, leading to a surge in global demand for semiconductor chips, which affects several chip-requiring industries.
Another reason is that the pandemic has disrupted the global supply chain system, causing distortions in supply and demand in certain industries, which are transmitted along the supply chain, causing a wider supply crunch. As ANBOUND previously pointed out, the spread of the pandemic has dealt multiple blows to global supply chains. During the pandemic, China, as the "world's factory", was affected by the pandemic and its production side was disrupted. Then, the demand side of developed countries was suppressed by the impact of the pandemic. This is followed by the fact that the malfunctioning of the global supply chain system has exacerbated global supply distortions. To cite an example, the severe shortage of containers due to disruption of the supply chain has exacerbated the global supply distortions.
In addition, enterprises began to collectively increase their inventories, leading to the increase of inventories in the industrial chain and supply chain, amplifying the demand for all kinds of raw materials, intermediate products, and supporting products. In the past, in order to save costs and improve efficiency, many enterprises advocated zero-inventory production and tried to reduce the inventory in the production link, thereby reducing the capital occupation. However, the smooth operation of zero inventory production depends on the efficient global supply chain system. Once a problem occurs in the global supply chain system, it can lead to chaos in the whole supply chain system. The 2011 earthquake in Tōhoku, Japan has caused the shutdown of some key auto parts plants, which once led to the global auto supply chain being affected. Likewise, the global spread of the COVID-19 pandemic since last year has damaged, distorted, and even disrupted global supply chains.
Finally, geopolitical factors have also contributed to the tight supply of global commodities, resulting in the artificial disruption of part of the industrial chain and supply chain. For example, the U.S.-driven crackdown on chip supply to Chinese enterprises and related sanctions have seriously disrupted the global semiconductor industry chain.
How long will the supply crunch last?
Overall, the global supply crunch is due to a variety of reasons, including increased demand from the post-pandemic economic recovery, distortions in global supply chains caused by the pandemic, collective stockpiling by enterprises around the world, and geopolitical disruptions. However, this does not represent a significant expansion of aggregate global demand, but rather a distortion of the existing system as it is disrupted and broken. Judging from the current situation, this tight supply situation will last for a long time, leading to the price rise of raw materials and components. Therefore, both enterprises and governments need to be prepared for this scenario in the medium- and long-term.
Mr. He Jun is Partner, Director of China Macro-Economic Research Team and Senior Researcher. His research field covers China’s macro-economy, energy industry and public policy.