Sarbox Takes a Constitutional

By targeting the PCAOB's ''massive unchecked powers,'' a lawsuit also poses a constitutional challenge to Sarbanes-Oxley.

By challenging the constitutionality of the Public Company Accounting Oversight Board, plaintiffs in a lawsuit filed last week believe that they can spur the courts and Congress to undo the entire Sarbanes-Oxley Act.

While many federal laws have a “severability” provision that enables Congress to change a section of a law without dismantling it entirely, Sarbanes-Oxley doesn’t, according to Michael Carvin, a lawyer with Jones Day in Washington and lead attorney for the plaintiffs. A successful lawsuit might prompt a “remedy broader than fixing the board,” he adds, and perhaps “force Congress to face the issue” of passing legislation to overhaul Sarbox as a whole.

Indeed, Mallory Factor — chairman of the nonprofit Free Enterprise Fund, which promotes limits on government — acknowledges that the lawsuit is “an attack” on all of Sarbox. In addition to initiating the suit, Factor asserts that the organization has been working with members of the House and Senate on legislation that would do away with the act.

Some lawyers, however, think it unlikely that the courts would invalidate a law as massive as Sarbanes-Oxley even if the plaintiffs prevail. “Just because one part is unconstitutional doesn’t mean the whole is,” maintains Thomas Sjoblom of Chadbourne Parke, who argued — unsuccessfully — against the constitutionality of Sarbox during his defense of former HealthSouth Corp. chief executive officer Richard Scrushy. “They’re not going to throw out the whole act of Congress.”

To be sure, the lawsuit — filed on February 7 in U.S. District Court for the District of Columbia against the PCAOB and its four individual members — addresses only Title I of Sarbanes-Oxley, the provision that governs the accounting oversight board.

Title I established the PCAOB as a corporate nonprofit that’s “not an agency or establishment of the United States government.” The litigation disputes that contention; despite the law’s “effort to characterize the board as a private corporation, the board is a government entity subject to the limits of the United States Constitution,” the lawsuit argues. Citing Sen. Phil Gramm (R-Tex.), a supporter of Sarbanes-Oxley who nonetheless took note of the board’s “massive unchecked powers,” the plaintiffs also point to the PCAOB’s “broad discretion to set policy and impose regulations governing the conduct of public accounting firms.”

For their part, the board and its lawyers are still studying the suit and aren’t yet prepared to respond to questions about its merits, says Christi Harlan, director of public affairs at the PCAOB. “But they do intend to vigorously defend the board’s right to do the work that was assigned to it by the Congress and President Bush,” she adds.

Specifically, the plaintiffs assert that the setup of the PCAOB violates the separation of powers principal under the Constitution as well as its appointments clause. In both regards, the lawsuit contends, problems arise because members of the Securities and Exchange Commission — and not anyone from the executive, legislative, or judicial branches of government — appoint the PCAOB’s members.

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