The Number of Restatements Has Grown Significantly and Trends Emerge

Although on a yearly basis the number of companies restating their  financial statements due to accounting irregularities makes up only a small  percentage of publicly listed companies, we found that the number of  restatements has grown significantly since 1997. Finally, in reviewing these restatement announcements, we found  that different parties can prompt a restatement, including the restating  company’s management, an external auditor, or SEC. As figure 2 illustrates, for the announced restatements we identified, the  percentage of all NYSE-, Nasdaq-, and Amex-listed companies that restated  due to accounting irregularities increased between 1997 and June 2002. Revenue Recognition Is the Leading Reason for Restatements

Although public companies restate their financials for a variety of reasons,  revenue recognition was the reason for 38 percent of the 919 announced  restatements we identified (fig. Restating Publicly Traded Companies Lost Billions of Dollars in Market Capitalization in the Days and Months Surrounding a Restatement Announcement

In the 3 trading days surrounding the initial announcement of a  restatement, the stock prices of most of the restating publicly traded  companies that we analyzed decreased by almost 10 percent and, in total,  these companies lost more than $100 billion in market capitalization. Restatements and Accounting Issues Appear to Have Negatively Impacted Investor Confidence

Not only do restatement announcements appear to affect company stock  prices, but some evidence suggests that these announcements and the  questions they raise about certain corporate accounting practices may  negatively impact overall investor confidence. Investor confidence is  difficult to quantify because it cannot be measured directly and because  investors consider a variety of factors when making an investment  decision. However, concerns  about staff constraints have raised questions about Enforcement’s ability to  effectively fulfill its mission. SEC has  reported that the task force continues to focus on the professionals  involved in these cases, especially the auditors, who “stand as the  watchdogs of the reporting process.”

		SEC’s Enforcement of Accounting-Related Violations Has Increased

Enforcement investigates possible violations of securities laws, including  those related to accounting issues, which have increased from about 15  percent in fiscal 1996 to about 20 percent of SEC’s total enforcement  activity in fiscal year 2001. Although the legislation authorized  additional funding for SEC, it continues to face challenges in addressing its  traditional and new more expansive roles. First, questions have been raised about the adequacy of  the current system of corporate governance (including corporate  management, boards of directors, audit committees, and auditors) and its  ability to protect investors and ensure the integrity of public disclosures, as  evidenced by recent accounting issues and corporate failures. Recent Accounting Cases Have Raised Questions About Other Players as Well

Stock exchanges or markets, credit rating agencies, and securities analysts  also have roles in the corporate governance or corporate financial  reporting process. Objectives, Scope, and Methodology

As agreed with your staff, our objectives were to (1) determine the number  of, reasons for, and other trends in financial statement restatements since  1997; (2) analyze the impact of restatement announcements on the  restating companies’ stock market capitalization; (3) research available  data to determine the impact of financial statement restatements on  investors’ confidence in the existing U.S. system of financial reporting and  capital markets; (4) analyze the Securities and Exchange Commission (SEC  or Commission) enforcement actions involving accounting and auditing  irregularities; and (5) describe the major limitations of the existing  oversight structure and steps that have been and are being taken to ensure  the integrity of corporate financial disclosures and ongoing challenges. Although we identified 919 restatement announcements from January 1,  1997, to June 30, 2002, we excluded some restatements from our analysis  for a number of reasons. Based on the cooperation extended to SEC, SEC  deemed it appropriate to issue a cease-and-desist order. Side-by-Side of the Existing Corporate Governance and Oversight Structure and the Sarbanes-Oxley Act of 2002

The Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley) addresses many of the  concerns about the existing corporate governance and financial reporting  regulatory structure by enhancing the oversight of financial accounting.
What GAO Found

A number of well-publicized announcements about financial statement restatements by large, well-known public companies have erased billions of dollars of previously reported earnings and raised questions about the credibility of accounting practices and the quality of corporate financial disclosure and oversight in the United States. Industry officials and academics have speculated that several factors may have caused U.S. companies to use questionable accounting practices. Some officials have stated that increased focus and guidance by the Securities and Exchange Commission (SEC) on accounting issues in the late 1990s may have prompted more companies to restate previously reported financial statements. Although the number of restating companies continues to make up a small percentage of all publicly listed companies annually, the number of restatements due to accounting irregularities grew significantly--145 percent--from January 1997 through June 2002. The 845 restating companies GAO identified had restated their financial statements for many reasons--for example, to adjust revenue, costs or expenses, or to address securities-related issues. From January 1997 to June 2002, issues involving revenue recognition accounted for almost 38 percent of the 919 announced restatements. Finally, different parties can prompt a restatement, including the restating company, an external auditor, or SEC. The 689 publicly traded companies GAO identified that announced restatements between January 1997 and March 2002 lost billions of dollars in market capitalization in the days around the initial restatement announcement. However, these losses had potential ripple effects on overall investor confidence and market trends. The growing number of restatements and mounting questions about certain corporate accounting practices appear to have shaken investors' confidence in the nation's financial reporting system. Although determining the effect of the restatements and other accounting issues on overall investor confidence is difficult to measure, various attempts to measure investor confidence have been made. With the increase in the number of restatements due to accounting irregularities, 20 percent of SEC's enforcement cases since the late 1990s were for violations resulting from financial reporting and accounting practices. To address these, SEC has sought a variety of penalties, including levying monetary sanctions, issuing cease-and-desist orders, and barring individuals from appearing before SEC or serving as officers or directors in public companies. The recent increase in the number and size of restatements and disclosures of accounting issues and irregularities underlying them have raised significant questions about the adequacy of the current system of corporate governance and financial disclosure oversight. In addition to public companies, their auditors, and SEC, investors rely on a variety of parties for oversight and financial information, including stock markets, securities analysts, and credit rating agencies, all of which have roles in the corporate governance system or provide information to the investing public. However, recent events have raised concerns about the roles played by each of these parties. On July 30, 2002, the Sarbanes-Oxley Act was enacted. The act addresses many of these concerns, including strengthening corporate governance and improving transparency and accountability to help ensure the accuracy and integrity of the financial reporting system. The act authorizes additional funding for SEC, which has faced staffing and workload imbalances that have challenged its ability to fulfill its mission.