Sarbanes-Oxley:Risk of Too Little Risk

While much of the criticism of Sarbanes-Oxley has focused on Section 404 costs, a new study suggests that the greater damage may be its effect on corporate risk-taking. The study compared the investing behavior of U.S. companies with counterparts in the U.K. over the past 16 years. It found that American companies have reduced research and development (R&D) and capital spending and increased their cash holdings since the passage of SOX; also, the probability of an initial public offering taking place in the U.K., rather than the U.S., has risen in the period. Finally, the researchers argue that the reduction in stock price volatility is not proof of the market rewarding good governance and strong internal controls, but rather evidence of the market's assessment that companies are more adept at risk avoidance.

The research paper by Leonce Bargeron, Kenneth Lehn and Chad Zutter of the University of Pittsburgh, comparing 4,239 U.S. and 989 U.K. public companies for the periods 1995-1997, 1998-2000 and 2003-2005, finds that while the ratio of R&D to assets is greater at U.S. companies than at U.K. companies, the gap between the two groups has shrunk since Sarbanes-Oxley. The same was the case with capital expenditures to assets. In contrast, the cash to assets ratio at U.S. companies has risen in all three periods, jumping sharply since SOX; at U.K. companies, the ratio increased slightly before SOX, but has declined since.