SEC Eases SOX Anti-Fraud Rules for Smaller Public Companies

By | December 14, 2006

Federal securities regulators are moving to ease some financial-control rules for thousands of smaller public companies at the same time they look to stiffen requirements for individuals to invest in fast-growing hedge funds.

In proposed rule changes under a landmark 2002 anti-fraud law, the Securities and Exchange Commission is acting in response to business complaints that a key requirement of the law enacted after the wave of corporate scandals is overly burdensome and costly.

SEC Chairman Christopher Cox and the other four commissioners voted to adopt the revisions at a public meeting on Wednesday.

The changes, based on principles of sound accounting, are meant to make application of the rules “accessible,” easily understood and “relatively easy to apply,” Cox told reporters in a briefing on Tuesday.

“What we’re trying to do is intensely focus this exercise on what really matters,” he said.

The changes would especially benefit smaller companies. Smaller businesses have complained most vocally to the SEC about the costs of complying with Section 404 of the Sarbanes-Oxley law, which requires companies to file reports on the strength of their internal financial controls and to fix any problems.

At the same time, addressing the rising incidence of fraud in the burgeoning hedge fund industry, the SEC is proposing to raise the minimum financial requirements for individuals wanting to invest in the high-risk pools.

Under current rules, an individual must have at least $1 million (euro760,000) in net worth or annual income of $200,000 (euro151,000) to qualify. Added to that would be an additional requirement for at least $2.5 million (euro1.89 million) in investments, excluding a personal residence.

The SEC also is proposing a new anti-fraud rule for hedge funds. The agency was thwarted by a federal appeals court last spring in its effort to bring hedge funds under its supervision. The narrower changes being put forward are not expected to be open to legal challenge.

U.S. hedge funds, now numbering more than 9,000 with assets estimated to exceed $1 trillion (euro0.76 trillion), traditionally catered to the rich, as well as pension funds and university endowments, but are increasingly luring less wealthy investors.

The funds operate with minimal government supervision. The rise in fraud — more than 60 cases brought by the SEC since 2001 charging hedge fund managers with defrauding investors of more than $1 billion (euro760 million) — has hurt Main Street investors.

In addition, the SEC is allowing companies to provide to shareholders electronically the annual material on issues being put to a vote at annual meetings. Some business and labor groups have voiced concern about the plan, which is expected to save U.S. corporations some $500 million (euro377.53 million) a year or more in printing and postage costs.

The proposed revisions to the financial control rules take into account the size and complexity of companies, Cox and other officials said.

They provide for “a considerable amount of flexibility,” said Conrad Hewitt, the SEC’s chief accountant.

Hewitt said Monday that for companies with between $75 million and $700 million (euro56.63 million and euro528.54 million) in market values, reduced requirements for testing internal controls and providing documentation are being proposed.

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