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A contract research organization that tests development-stage drugs, SFBC International is scrubbing up for a big test of its own. Like many other publicly traded companies that must comply with the Sarbanes-Oxley Act of 2002, SFBC faces a rapidly approaching deadline — and a fast-rising bill — to vouch as never before for the integrity of its internal financial controls. To fully comply with Sarbanes, SFBC hired a consulting firm to help evaluate and improve its internal controls. Last March, the company expected that higher costs related to Sarbanes-Oxley compliance — including new accounting software, consulting fees and additional independent auditor fees — would total $600,000 this year. Now, it appears that the company’s compliance bill will be almost double what it expected. On Wednesday, SFBC disclosed in a filing with the Securities and Exchange Commission that the added cost of Sarbanes-Oxley compliance would be an estimated $1.1 million this year — including $600,000 in the fourth quarter alone. That kind of sticker shock is not uncommon. Companies in South Florida and across the nation are paying unexpectedly high costs to comply with Sarbanes-Oxley, a milestone law in corporate governance that President Bush and Congress enacted in response to the Enron debacle and other corporate accounting scandals. Many public companies are racing to comply with a section of Sarbanes that begins to go into effect today. Section 404 of the far-reaching corporate governance legislation requires companies to set up and test internal financial controls for items such as inventory and cash balances. Outside auditors then must check and approve those controls. That is in addition to the regular financial audit. A national survey of public companies in July found that they expected to shell out an average of $3.1 million — or 62 percent more than they expected in January — to comply with �404 of the Sarbanes-Oxley Act, according to Financial Executives International, a professional association that arranged the survey. Widely known as “SOX,” the law has required chief executive officers and chief financial officers to certify financial statements and stock their boards with more directors who are independent of management. But those mandates have been far less costly to comply with than SOX regulation of internal controls like those under 404, which are designed to deter fraud, embezzlement and other financial crimes. Sarbanes is socking many public companies with significant expense now because its most costly elements start to take effect today for companies with a market capitalization of at least $75 million. BIG-TICKET ITEMS For fiscal years ending on or after Nov. 15, the annual Form 10-K report that each public company is required to file with the SEC must include two new items with big price tags: a management report that assesses the company’s internal control structure and an independent auditor’s report on management’s assessment (known technically as an “attestation.”). “The audit fee will go up significantly,” said Gregory T. Rusk, an audit partner of Grant Thornton at its Miami office, “because now there’s two audits, one for the numbers and one for the controls.” Though �404 goes into effect today, the deadline to fully comply with those provisions of Sarbanes vary from company to company. Many, like SFBC, which has a fiscal year that mirrors the calendar year, face a Dec. 31 deadline. And getting into compliance can cost a small mountain of money. For most companies, the cost of getting right with �404 of Sarbanes-Oxley is likely to be less severe and more predictable in subsequent years than in the first year of full compliance. In year one, many companies will be paying heavy start-up costs to prepare for external audits of their internal controls. Evaluation, improvement and documentation of internal controls also must be accompanied by development of an effective way to test controls, which can be especially time-consuming. “How many controls do you test? Are IT [information technology] controls important? Do we test those?” Rusk asked. With these and so many considerations to address, he said, the total cost of preparing for audits of internal controls generally starts around $250,000 and ranges “into the millions.” The biggest companies will be spending the most money to comply with �404. But for many behemoths, the bill is relatively small when compared to revenue. In their latest quarterly reports on file with the SEC, larger companies in South Florida, including cruise giant Carnival Corp., transportation specialist Ryder System and AutoNation, made no mention of Sarbanes-Oxley because even a compliance cost of several million dollars is relatively insignificant in their billion-dollar worlds. SFBC, on the other hand, expects that its 2004 revenue will be no more than $155 million, so its seven-figure bill to cover Sarbanes-Oxley compliance costs will be a significant hit. Other public companies in South Florida with modest revenue bases have disclosed in SEC filings that they too are feeling the pinch. Local companies that recently disclosed higher costs due to Sarbanes-Oxley compliance include Concord Camera of Hollywood, CyberGuard of Fort Lauderdale, NABI Biopharmaceutical of Boca Raton, SBA Communications of Boca Raton, Quipp of Miami, NABI Biopharmaceutical of Boca Raton and Ultimate Software of Weston. Some disclosures specifically mention the cost of complying with �404, the part of Sarbanes-Oxley pertaining to internal controls. For some companies, the process is turning up weak links in their controls. CyberGuard, for example, reported in September that while it has been pursuing �404 compliance, its independent auditor, Grant Thornton, “identified to management and the audit committee [of the board] a significant deficiency that needs to be improved. … Management has committed to hiring additional resources in the finance department to mitigate and correct the deficiency.” In many cases, smaller companies have unwritten internal controls and lack staff to evaluate, improve and document their controls without the help of law and accounting firms. Bone-thin administrative staffs with little time to spare for such undertakings are calling in reinforcements. “They have controls but they haven’t documented their processes,” said Miami lawyer Ira Rosner, a shareholder in the corporate securities group of law firm Greenberg Traurig. Even privately held companies can find themselves subject to compliance with Sarbanes-Oxley if they have filed a securities registration statement with the SEC, irrespective of whether the statement has been declared effective or securities have been issued, Rosner said. Lately, “there has been an increase in companies going private, and nothing in Section 404 will discourage that,” Rosner said. “By the time a private company sits down and adds up the cost of their audit fees, internal controls, and D&O coverage [directors and officers liability insurance], you might find on a pro forma basis that suddenly you would be operating at a loss.” BUSY ACCOUNTING FIRMS Not everyone is losing, though. Efforts to comply with �404 have triggered a windfall of business for smaller accounting firms. While major accounting firms will be called upon to attest to the quality of internal controls in addition to auditing financial results, they are barred from helping public companies evaluate, improve and test their internal controls, so much of that work is going to smaller accounting firms that don’t usually work with public companies. “If an accounting firm is your regular auditor, it cannot really help the company with what it needs to do with respect to the [Section] 404 management report,” said Miami-based attorney Steve Sonberg, chairman of the business law section of Holland & Knight. Exactly how many South Florida companies will be able to produce timely management assessments, plus auditor reports on the assessments, remains to be seen. Public companies with extensive issues related to internal controls could experience SEC filing delays, said Grant Fitzwilliams, a managing director of Miami-based professional services firm Answerthink who runs its Sarbanes-Oxley consulting practice. “How many are going to have material weaknesses in their internal controls?” Fitzwilliams said. The number could be higher than expected, he said. “Auditors are not backing down from some very tough stances.” While Answerthink has its own SOX compliance to attend to, the public company sees further expansion of its Sarbanes-Oxley consulting practice, Fitzwilliams said. The SOX practice is experiencing “rapid growth,” he said, and “we think that it will continue to grow next year.”

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