Excavations in Accounting

"In the financial reporting world and auditing world, up until now, when someone came across an error in the numbers, the only thing that auditors had to do was get the numbers right, and that was the end of the story," said Mike Ramos, a Denver accountant and consultant who wrote one of the first books on Sarbanes-Oxley compliance. "Now, under Sarbanes-Oxley, they have to probe a little deeper and find out how the mistake occurred in the first place. Which can lead to the conclusion that they never had proper controls in the first place. Not so long ago, internal-control problems would never have seen the light of day."

By contrast, Sarbanes-Oxley's focus on internal controls -- the systems put in place to make sure factual financial and other important information actually reaches top management -- has led to an environment of second-guessing by auditors, where even a minor accounting error can mushroom into a wholesale investigation of a company's accounting procedures. The law put the onus on chief executives to certify they have taken all reasonable efforts to make sure that the numbers are correct and that their companies are fraud-free. The result, experts say, is a rush to get every possible error, no matter how small, identified and disclosed.

"I think what [Sarbanes-Oxley] did, it created an environment where companies aren't allowed to make honest mistakes," said Colleen Sayther Cunningham, president of Financial Executives International, a trade group of 15,000 chief financial officers and other financial executives. "You're seeing companies wounded by errors that in the past wouldn't have required a restatement but would have been fixed going forward."

Institutional investor advisory firm Glass, Lewis & Co. estimates that by the time the books are closed for 2005, more than 1,200 of the country's approximately 15,000 public companies will have announced accounting restatements -- a record. There were 619 restatements in 2004. In 2001, the year before Sarbanes Oxley passed, there were 270.

In addition, about 1,000 companies reported material weaknesses in their internal controls in their most recent quarterly filings.

Ramos and other experts predict that in a few years, the number of restatements will fall. But Harvey L. Pitt, former chairman of the SEC, said the increased scrutiny of internal controls could mean that high numbers of restatements will be a permanent fixture.

"I'm not sanguine that restatements will return to historic levels," Pitt said. "With companies much more focused and disciplined, there should be a lot fewer of these. But we're never going to see the elimination of restatements because that would mean we've eliminated mistakes, which of course is impossible."

While the benefits of cleaner accounting and better governance are real, so are the costs: Annapolis-based CompuDyne Corp. said recently that Sarbanes-Oxley reporting requirements had cost it $2.2 million in 2004.

Executives at the companies that recently announced restatements, including Mills, either didn't return phone calls seeking comment or would not speak on the record.

AES Corp., an Arlington owner of power plants and utilities around the world, has recently restated its results for the past three years downward by hundreds of millions of dollars, in large part because of pre-2002 errors in some of its deferred tax accounting at certain of its foreign subsidiaries. The problem came to light last year after the company identified a material weakness related to its accounting for deferred income taxes and embarked upon a global effort to perform more detailed reconciliations at its foreign subsidiaries. That effort, in turn, uncovered other unrelated accounting errors. AES said this month that its internal-control problems are being fixed and that its past results are now correct.

Allied Defense Group Inc., a Northern Virginia guns and ammunitions maker, has had problems with its foreign currency hedge accounting all year and has had to restate its results twice. Allied took the unusual move of replacing its auditor, Grant Thornton LLP, before the year closed, hiring BDO Seidman LLP in October.

Tier Technologies Inc., a Reston government contractor, also has been dealing with internal-control problems for more than a year. In December it said it would have to restate three years of results. Tier also hired a new auditor in early 2005.