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Sarbanes-Oxley Section 404

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Sarbanes-Oxley Section 404. June 29, 2005. Table of Contents. SOX 404 Background 3 SOX 404 Goals 4 SOX 404 Requirements 5 SOX 404 Assertions 6 SOX 404 Compliance 7 COSO – Internal Controls 8 COSO – Internal Controls Framework 9 Why Do You Really Care About SOX 404? 10

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Table of Contents
  • SOX 404 Background 3
  • SOX 404 Goals 4
  • SOX 404 Requirements 5
  • SOX 404 Assertions 6
  • SOX 404 Compliance 7
  • COSO – Internal Controls 8
  • COSO – Internal Controls Framework 9
  • Why Do You Really Care About SOX 404? 10
  • Things You Can Do 11
sox 404 background
SOX 404 Background

Due to the scandals in corporate financial reporting, Congress enacted in 2002, the Sarbanes Oxley Act (“SOX”). The Security Exchange Commission oversees the compliance by publicly traded companies to the Act. The Public Companies Accounting Oversight Board (“PCAOB”) drives the compliance.

SOX Section 404 rules require each annual report to contain an internal control report which shall state the responsibility of management for establishing and maintaining an adequate internal control structure and procedures for financial reporting, and contain an assessment of the effectiveness of the internal control structure and procedures of the issuer for financial reporting.

Filing due dates:

  • Fiscal years ended on or after November 15, 2004 for accelerated filers (ie., market capitalization in excess of $75mm)
  • Fiscal years ended on or after July 15, 2006 for non-accelerated filers.
sox 404 goals
SOX 404 Goals

The goals of a SOX 404 program are to ensure that enterprise internal controls are of such quality that there will be:

  • no material weaknesses that must be reported at the registrant level by either management or the by external auditor;
  • no significant deficiencies that must be reported at the registrant level by either management or the external auditor to the Audit Committee of the Board of Directors; and
  • no material misstatements of the company’s financial statements
sox 404 requirements
SOX 404 Requirements
  • Client management must:
    • Document and test the internal controls over financial reporting
    • Issue an annual assertion on the effectiveness of internal control over financial reporting
  • External Auditors must:
    • Determine nature, timing, and extent of testing
    • Review work performed by management
    • Perform some independent tests of controls
    • Attest and report on:
      • Management’s 404 assertion process
      • Design and effectiveness of internal controls
SOX 404 Overview - Assertions
  • In order to make the assertion, the clientmust:
    • Document and evaluate the design of controls
    • Evaluate the operating effectiveness of significant controls
    • Identify significant deficiencies or material weaknesses
    • Document the results of the evaluation
    • Communicate findings (e.g., significant deficiencies and material weaknesses) to the independent auditor

Note: Absence of sufficient evidence to support the Company’s assessment may constitute a significant deficiency that results in a report qualification by the external auditors.

COSO – Internal Controls
  • COSO provides the PCAOB’s accepted basis for establishing internal control systems and determining their effectiveness.
  • Stands for “Committee of Sponsoring Organizations”
  • Originally formed in 1985 to sponsor the National Commission on Fraudulent Financial Reporting (aka “The Treadway Commission”)
  • The sponsoring organizations include:
    • American Institute of Certified Public Accountants (AICPA)
    • The Institute of Internal Auditors (IIA)
    • Financial Executives International (FEI)
    • Institute of Management Accountants (IMA)
    • American Accounting Association (AAA)
  • Published two documents and one pending
    • 1992 – Internal Controls – Integrated Framework
    • Mid 90’s – Internal Control on Derivative Issues
    • Early 2004 – Enterprise Risk Management Framework
COSO - Internal Control Framework


The process to determine whether internal control is adequately designed, executed, effective and adaptive

The process which ensures that relevant information is identified and communicated in a timely manner

The policies and procedures that help ensure that actions identified to manage risk are executed and timely


The evaluation of internal and external factors that impact an organization’s performance

The control conscience of an organization. The “tone at the top”

Why Do You Really Care About SOX 404?
  • Non-profit (country clubs) and non-publicly traded (hotels) companies are not required to comply with SOX 404 requirements.
  • Reasons to care:
  • Board members, who are responsible for the establishment and maintenance of good corporate governance –ALL
  • Financing sources (banks and investors) want assurance that the financial statements are not misrepresented – ALL
  • Owners want assurance that the financial statements are not misrepresented – Hotels
  • Risk of membership loss due to fraudulent practices disclosed to the public – Country Clubs
  • If acquired by a publicly traded company, SOX 404 compliance is required - Hotels
things you can do
Things You Can Do

Steps to take to enhance your internal controls:

  • Establishment of an audit committee to provide financial reporting and internal control expertise, along with oversight on such matters
  • Establish a “Whistle-Blower” policy to provide the means and safeguards to those who identify fraudulent practices
  • Assess the risk associated with the processes that make-up your organization (ie., sales/revenue, cash, accounts receivable, fixed assets, accounts payable, payroll, etc.)
  • For high risk areas and processes ask yourself, “What Could Go Wrong” and address the answers to the question (ie., segregation of duties)

Reference List: