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13 December 2006

SEC proposes to improve Sarbanes-Oxley 404 Implementation

The SEC voted to propose for public comment interpretive guidance for managements regarding their evaluations of internal control over financial reporting. The Commission also proposed amendments to Rules 13a-15 and 15d-15 that would make it clear that a company choosing to perform an evaluation of internal control in accordance with the interpretive guidance would satisfy the annual evaluation required by those rules. Finally, the Commission proposed amendments to Regulation S-X to clarify the auditor's reporting requirement pursuant to Section 404(b) of the Sarbanes-Oxley Act.

'We are proposing this interpretative guidance to help management make their evaluation process more efficient and cost-effective,' said SEC Chairman Christopher Cox. 'In the absence of guidance, management has looked to the PCAOB's auditing standard to conduct their evaluations, which is not what was intended. With this guidance, management will be able to scale and tailor their evaluation procedures to fit their facts and circumstances, and investors will benefit from reduced compliance costs. While the guidance is intended to help public companies of all sizes, smaller companies should particularly benefit from its scalability and flexibility. We believe that today's proposed guidance, along with the Public Company Accounting Oversight Board's new auditing standard to be proposed next week, will result in significant improvements in the implementation of Sox 404.'

'The guidance proposed today is an important step in the roadmap the Commission laid out in May for improving the implementation of Section 404 for all issuers,' said John W. White, Director of the SEC's Division of Corporation Finance. 'The proposed interpretive guidance should reduce uncertainty about what constitutes a reasonable approach to management's evaluation while maintaining flexibility for companies that have already developed their own assessment procedures and tools that serve the company and its investors well. Companies will be able to continue using their existing procedures if they choose, provided of course that those meet the standards of Section 404 and our rules. At the same time, the guidance maintains the important investor protection objectives of bringing information about material weaknesses into public view and fostering the preparation of reliable financial statements in an effective and efficient manner.'

'Our proposed guidance is focused on risk and materiality. We have worked hard to ensure that the proposed guidance will not disrupt best practices already in place, or that may be evolving, while at the same time ensuring that it would be scalable to companies of all sizes,' said Conrad Hewitt, Chief Accountant. 'In particular, the top-down, risk-based guidance would allow for effective, and, importantly, efficient, methods and procedures for conducting evaluations at smaller companies. It is also intended to rebalance control over the process by providing management with its own guidance — without the need to look to auditing standards — for evaluating internal control over financial reporting. Although our guidance is directed to management and the expected proposal from the PCAOB is directed to auditors, we encourage respondents to take advantage of the proposals' overlapping comment periods to consider whether the proposals, if adopted, will ensure an appropriate balance between management's evaluation process and the audit process. We encourage feedback on all aspects of our proposal.'

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