Wednesday, March 5, 2008

The Disaster of Sarbannes-Oxley

March 5, 2008

Overseas Investments

Investment U E-Letter: Issue # 507
Monday, January 30, 2006

Overseas Investments: Another Fine Mess For U.S. Stocks…and the Growing Case For Investing Abroad
by Mark Skousen, Chairman, Investment U

"It" - a new U.S. government regulation - is a costly monster.

Just one provision of the law (the infamous section 404) cost the average company $4.36 million last year. Total compliance came to $6.1 billion to public companies overall. As a result of "it," the four largest accounting firms have raised their fees 78% to 134%.

Professor Ivy Zhang at the University of Rochester calculates that "it" has resulted in a cumulative loss of $1.4 trillion in shareholder value since going into effect, an average loss of $460 for every person in America.

Of course, those in Congress who voted for "it" said "it" was the price we had to pay to clean up Wall Street's image following the scandals of Enron and WorldCom. And while "it" might create some short-term setbacks, they believed Wall Street and the financial world would eventually get used to "it," all for the better.

But now the truth about "it" is coming out, and from all appearances, the cure may be worse than the disease…

No, "it" is not something you find on eBay. Rather, "it" is the dreaded Sarbanes-Oxley law passed in 2002 to prevent fraud and increase transparency and compliance of publicly traded companies. And with that comes the opportunities for overseas investments in 2006. But before we get into investing abroad, let's take a look at the many implications of Sarbanes-Oxley…

The Growing Disaster Called "Sarbox"

So far, Sarbox (as "it" is called) has completely backfired. Recently, The Wall Street Journal issued several negative reports on Sarbox:

  • Initial Public Offerings (IPOs) have had to postpone going public due to increased compliance costs.
  • Many pubic companies are now going overseas, especially outsourcing to India, to reduce the costs of compliance.
  • And most importantly, last Thursday's Wall Street Journal (January 26, 2006) reported a dramatic fallout in the number of foreign companies listing their shares in New York.

In fact, according to Citigroup, in 2000, nine out of every 10 dollars raised by foreign companies through new stock offerings were done in New York rather than London or Luxembourg - the two other main choices.

Today, nine out of 10 dollars are raised overseas through new company listings in London or Luxembourg. The chart below illustrates the big migration:

Overseas Investments: Percentage of Money Raised in the U.S. from Foreign IPOs

The cause of this sharp drop-off in foreign listings in New York? "The U.S. requirements are far more rigorous," said Gagan Banga, executive director of Indiabulls Financial Services, who decided to list in London instead.

Foreigners blame the U.S. on two counts:

  • Excessive accounting and disclosure rules of Sarbox
  • Underperformance of the U.S. market. I think these two go hand in hand.

The fact is that Sarbox is unnecessary. The private market was already cleaning up the accounting scandals without government help: Financial magazines exposed the frauds, accounting firms were establishing more rigorous standards, and the ivy league business schools (including Columbia, where I taught) were busy expanding courses in business ethics.

What Should Investors Do? Consider Overseas Investments!

It's pointless to write your Congressman and complain. Leave it up to the lobbyists. (The complaints by small business have been so intense that the SEC has recommended exempting companies with a market cap under $150 million from the ugly 404 regulations.)

The best bet is to invest overseas. Foreign markets will continue to outperform U.S. markets due to the cost advantage of going abroad, and their economies are growing faster than ours.

My Recommendations:

Last week, I recommended investing in the MSCI Emerging Markets Fund (AMEX: EEM). It continues to rise. Today, I suggest you add The India Fund (NYSE: IFN) as an overseas investment to your portfolio. This is where companies are benefiting from outsourcing and Sarbox regulations. It's on the move.

Today's IU Crib Sheet

  • The unnecessary corporate expense due to the Sarbox legislation isn't the only reason to think about an overseas investment… Check out Investment U #497: Stock Market Predictions for 2006: A Huge Bull Market in Foreign Stocks! It's another case for putting your investment dollars to work outside of U.S. stocks…and into the burgeoning profitable sector of investing abroad.

Good trading,


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