Section 404

Definition

Section 404 is a provision of the Sarbanes-Oxley Act that mandates companies to establish internal controls and procedures for financial reporting. This section requires annual assessments of these controls, ensuring that they are effective in preventing fraud and inaccuracies in financial statements. The emphasis on internal control strengthens corporate governance by promoting accountability and transparency in financial reporting.

5 Must Know Facts For Your Next Test

1. Section 404 requires management to evaluate the effectiveness of internal controls over financial reporting and provide a report on this assessment.
2. Companies must have their internal controls audited by an external auditor, which adds an additional layer of scrutiny to their financial practices.
3. Failure to comply with Section 404 can result in significant penalties, including fines and loss of public trust, making it a critical focus for public companies.
4. The implementation of Section 404 has increased costs for companies due to the need for extensive documentation and auditing processes.
5. Despite the challenges, Section 404 is credited with enhancing the reliability of financial reporting, thus increasing investor confidence.

Review Questions

• How does Section 404 enhance corporate governance and accountability in public companies?
  • Section 404 enhances corporate governance by requiring companies to implement effective internal controls for financial reporting. This requirement ensures that management actively assesses and confirms the reliability of their financial statements, fostering accountability. By mandating external audits of these controls, Section 404 promotes transparency and protects investors from potential fraud and inaccuracies.
• Evaluate the challenges that companies face when complying with Section 404 of the Sarbanes-Oxley Act.
  • Companies face several challenges in complying with Section 404, including the high costs associated with establishing and maintaining robust internal controls. The requirement for annual assessments and external audits can strain resources, especially for smaller firms. Additionally, navigating the complexities of documentation and ensuring that controls are adequately tested can be time-consuming and may require hiring specialized personnel or consultants.
• Assess the long-term impact of Section 404 on investor confidence and market stability since its implementation.
  • Since its implementation, Section 404 has had a significant long-term impact on investor confidence and market stability. By improving the accuracy of financial reporting through enhanced internal controls, investors feel more secure in their investments, which contributes to market stability. Furthermore, the rigorous auditing process mandated by Section 404 has deterred fraudulent activities, reinforcing trust in public companies. This increased reliability has led to a more robust financial market environment overall.

Related terms

Sarbanes-Oxley Act: A U.S. federal law enacted in 2002 to protect investors by improving the accuracy and reliability of corporate disclosures.

Internal Controls: Processes designed to ensure the integrity of financial and accounting information, promote accountability, and prevent fraud.

Public Company Accounting Oversight Board (PCAOB): A nonprofit corporation established by the Sarbanes-Oxley Act to oversee the audits of public companies and ensure compliance with relevant regulations.