Abstract

In ensuring smooth contracting between shareholders and managers, conservatism financial reporting is the most suitable, especially in agency concerns. When the shareholders are distanced from the managers, agency issues arise. In the instance where the separation of control and owner is pronounced, there occur slow managerial ownership. Conservatism encourages situations where the positive outcomes or achievements are recognized while the adverse outcomes are ignored. Therefore, the bad news is acknowledged as losses, while the excellent news is recorded as gains. Lafond & Roychowdhury (2008) help us understand the existing relationship between accounting conservatism and managerial ownership. The ownership structure significantly influences financial reporting. It encompasses information sources including but not limited to decision-makers, financial analysts, academics and auditors. This research paper examines the relationship between internal control weakness and accounting conservatism. It derives potential evidence from the post-Sarbanes-Oxley Period.

Introduction

The rise mainly influenced the motive behind enacting the Sarbanes-Oxley Act of 2002 in company scandals that damaged the confidence of shareholders and investors. The loss of confidence has been associated with the supply of unreliable and invalid financial reporting. Some of the common companies reportedly involved in these scandals are WorldCom and Enron. The Sarbanes-Oxley Act influences financial reporting through accounting conservatism. There is a close connection between these variables. The change in SOX significantly accelerates financial reporting. The weaknesses in the internal control have further implications for the SOX (Mitra et al., 2013). The formulation and enforcement of the Sox was critical in addressing the disparities between managers and shareholders. Managers would gazette invalid financial reports to tap shareholders. In this case, managers would exploit shareholders as they continue to channel wealth and other resources from the firm into their pockets. With the Sarbanes-Oxley Act of 2002, these scandals were mitigated and addressed effectively. The law helped promote a sense of openness and transparency between managerial ownership and shareholders. This paper examines the relationship between internal control weaknesses and accounting conservatism.

According to the Sarbanes-Oxley Act, companies should ensure effectiveness in their financial reporting and safeguard the interests of the shareholders and investors. The regulation emphasizes the need for transparency while providing reports on how a firm behaves financially. Section 404 (b) requires public firms to take full responsibility for financial reporting, provide oversight and ensure the processes align with the set guidelines. The internal control mechanism should take charge and ensure that no malpractices may aim to manipulate investors in the name of misstatements (Mitra et al., 2013). The AICPA mainly urged the enforcement of Section 404 (b) to protect investors’ rights. These laws have significantly created room for improved financial performance reporting.

The level of transparency has increased in the post-Sarbanes-Oxley Period. Across the public firms, investors have similar rights to enjoy based on this Act. However, small-scale companies have maintained that these guidelines and regulations subject them to huge burdens and costs resulting from thorough assessment and monitoring of financial reporting at the organization level. Many corporate firms tried to advocate for their exemption from Section 404 (b). This led to significant amendments that excluded companies from this Act, particularly the public organizations with less than $75 million public float. Small firms were later exempted from Section 404 (b) provisions upon the amendment of the Business Startups Act (JOBS Act). This law, which targeted small enterprises that stayed within the required public float, excepted them from adhering to Section 404 (b) in their first five years of operation.

The Sarbanes-Oxley policy allows financial reporting practices that promote a sense of validity, honesty and integrity. This is significantly meant to build confidence in shareholders and investors based on the credibility and reliability of the information availed by firms while reporting their financial performances. The Sarbanes-Oxley Act was enacted to protect investors, employees, and employers. The Act helped create a sustainable and conducive environment for smooth operations. In this case, any firm operating in line with the set regulations would experience increased assets, creating room for growth. Financial transparency attracts investors as companies embrace Section 404 (b) of the Act. Organizational management is tasked with the enormous responsibilit