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Could SOX Have Prevented the Fraud?
The Sarbanes-Oxley Act of 2002 (SOX) was an effort to increase the confidence of investors after a number of high-profile corporate failures due to malfeasance on the part of corporate officers and poor internal controls. After the failures of Enron, WorldCom, and other large companies - which resulted in huge losses to investors - Senator Paul Sarbanes (D-Md.) and Representative Michael Oxley (R-Ohio) coauthored a bill that resulted in public companies improving the accuracy of their financial reports. The law contains 11 major sections, including (Title I) Public Company Accounting Oversight Board, (Title II) Auditor Independence, (Title III) Corporate Responsibility, (Title IV) Enhanced Financial Disclosures, (Title V) Analyst Conflicts of Interest, and (Title VI) Commission Resources and Authority. Titles VII, VIII, IX, X, and XI deal with studies and reports, corporate and criminal fraud accountability and white-collar crime penalties, corporate tax returns, and corporate fraud and accountability.
While SOX came about as a direct result of the Enron meltdown in 2001, followed by the WorldCom bankruptcy in 2002, these two companies were not the only failures that led to its passage. The 1992 bankruptcy of Phar-Mor Inc. cost its investors $500 million. Although the bankruptcy occurred 10 years prior to the enactment of SOX, this article attempts, with hindsight, to determine if the bankruptcy might have been prevented if the provisions of SOX had been in effect and applied to Phar-Mor Inc.
Background
Phar-Mor Inc., a deep discount drugstore chain, came into existence in 1982 as an affiliate of family-owned grocery chain Giant Eagle, which also owned a distribution company, Tamco Distributors Co. The deep discount concept consisted of using ''power buying," or purchasing the largest possible amount of product at the best terms, then selling at discounts of up to 25%-40% off retail prices.
The then vice-president of Tamco, Michael J. "Mickey" Monus, was named president of the new company. Phar-Mor had grown to 70 stores by 1987 and saw further expansion, reaching 200 stores in 1990; by 1992, it reached 310 outlets with 25,000 employees in 34 states (www. fundinguniverse.com/company-histories/ PharMor-Inc-Company-History.html).
The first indication of financial problems came to light in 1988, when investigation of lower-than-expected profit margins revealed that Phar-Mor was being billed for inventory...