Sarbanes-Oxley Anti-Fraud Law Likely to End Up Before Supreme Court

A constitutional challenge by conservatives to the law that reshaped corporate governance after a wave of business scandals likely will end up before the Supreme Court, attorney Kenneth Starr says.

The legal action that Starr is mounting against the Sarbanes-Oxley anti-fraud law is one of a trio of assaults targeting it, as small companies push for regulatory exemptions and some lawmakers prepare legislation to change it. With memories fading of the corporate fiascos of 2002 that began with Enron Corp.'s collapse, opponents of the law and its mandates on public companies and the accounting industry are banking on a changing political climate.

Starr, the former special prosecutor who led the Monica Lewinsky and Whitewater investigations of President Clinton, is one of the attorneys bringing the federal court case on behalf of a pro-business conservative group, the Free Enterprise Fund. They are challenging the board established by the 2002 law to oversee the accounting industry, arguing that it violates the Constitution's mandated separation of powers among the three branches of government.

"This constitutes an excessive delegation of power by the executive branch," Starr said in a telephone interview Thursday.

The five-member Public Company Accounting Oversight Board, endowed by the law with subpoena power and the authority to discipline accountants, "is a board that exercises real power in the marketplace."

"This is a cop on the beat," said Starr.

Given the nature of the issues raised in the case, he said, "It is quite likely that the Supreme Court would be interested in this case eventually."

Christi Harlan, a spokeswoman for the oversight board, said Friday, "We're going to vigorously defend our powers."

The board's attorneys will make the case in writing by May 15, as requested by the judge, why the Free Enterprise Fund's suit should be dismissed, she said. Oral argument before U.S. District Judge James Robertson is set for June 29.

Business interests, meanwhile, especially smaller public companies, have been complaining vocally about the costs of complying with a key part of the Sarbanes-Oxley law: the requirement to file reports on the strength of their internal financial controls and fix any problems. They want the Securities and Exchange Commission to give smaller companies an exemption.

An advisory committee appointed by the SEC formally proposed this week that the agency exempt smaller companies from the requirement — a move that would affect about 70 percent of all public companies in the United States.

SEC Chairman Christopher Cox, in appearances before Congress this week, reaffirmed his position that the goal should be to make the internal-controls requirement work so that it can apply to companies of all sizes.

"There ought to be a way to make this work," Cox said in testimony before the Senate Banking Committee.

A few lawmakers are drafting legislation that would exempt companies with a market value of less than $700 million from complying with the requirement.

Because of the compliance burden, "We are now busy outsourcing America's lead in world capital formation," Rep. Tom Feeney, R-Fla., a lead author of the proposal, said Thursday. "New entrepreneurs are no longer considering the United States of America as a friendly place to raise capital."

Even the House Democratic leader, Rep. Nancy Pelosi of California, lists, as a point in the Democrats' legislative plan, requiring "specifically-tailored guidelines" for small companies "to ensure Sarbanes-Oxley requirements are not overly burdensome."

Prospects for such legislation are unclear, however.

Starr, who now is the dean of Pepperdine University's law school in California, is litigating the case with Viet Dinh, a former assistant attorney general in the Justice Department in Bush's first term, and Michael Carvin, a private attorney who was a member of the Bush legal team during the presidential vote recount in 2000.

They are arguing that the makeup of the accounting oversight board violates the separation of powers doctrine because its members aren't appointed by the president and cannot be removed by him, and Congress cannot control its budget. The chairman of the oversight board and the other four directors are appointed by the SEC, which is an independent federal agency; the accounting board is funded by fees on publicly traded companies according to their size.

The Sarbanes-Oxley law — which, among other things, mandated greater financial disclosures and increased the criminal penalties for securities fraud — could be invalidated if any of its sections, such as that related to the accounting board, is found unconstitutional. Opponents want it sent back to Congress for a revision.