BY MANY ACCOUNTS, merger-and-acquisition activity is poised to roar back in 2004. But just as companies are considering new deals, along comes another potential roadblock: Section 404 of the Sarbanes-Oxley Act of 2002.
At this point, the Securities and Exchange Commission has not issued guidance on how to interpret Section 404–which calls on companies to certify that they have auditable internal controls–in relation to mergers and acquisitions. But since any company that consolidates another is then responsible for the target’s internal controls, finance executives are understandably concerned that Section 404 may chill certain deals.
“Any acquisition we do next year has to be 404-ready,” says Steve Paladino, CFO of Henry Schein Inc., who adds that such verification could prove to be a problem if the target is a private firm. Moreover, he says, the Melville, N.Y.-based health-care supplies company may postpone acquisitions if there’s any question a deal might impede its ability to certify financial statements or meet the deadline for Section 404 compliance.
Paladino’s sentiment is understandable, says James E. Hoffman, managing director at Robert Baird & Co. “Buyers want to make certain that a particular deal is not going to jeopardize their ability to certify their own financials and internal controls.” So while Section 404 may not “hurt M&A volume over the longer term” he says, “it will change the nature of due diligence and the timing of deals.”
In response, says Robert L. Filek, partner in transaction services with PricewaterhouseCoopers, “expect the scope of the due-diligence procedures to be much more robust.” Hoffman, for example, expects that acquirers will drill down deeper and “interview everyone from the controller to the audit partner to the IT person to make sure there are no glitches.” Such increased due diligence, coupled with tougher scrutiny from boards, means it will take even longer to complete a deal.
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