2021 IPO and SOX Material Weakness Disclosures

Are you considering going public? Do you want to make a good first impression? Having material weakness disclosures can result in loss of investor confidence, and lower analyst ratings. They can hurt share price and the overall value of the company. Newly public companies are especially vulnerable since they have a limited history of stock market performance to guide investors.

So, what are material weakness disclosures and what is happening in the world of IPOs? According to the KPMG 2021 IPO Material Weakness Study (2021 study), the following is the list of material weaknesses disclosed by 48% of 77 traditional IPO’s and 30 SPACs who disclosed material weaknesses. Having an independent organization assist with the implementation of SOX will highlight resource and expertise gaps and address material weaknesses proactively.

Material Weakness	%
Lack of accounting resources and expertise	64%
Inadequate control design/lack of control	61%
Inadequate/lack of formal policies and procedures	39%
Segregation of duties	36%
Systems/Technology IT General Controls (ITGC)	21%
Material/numerous audit or year-end adjustments	13%
Control not operating effectively	13%
Risk Assessment	5%

 

The 2021 study includes numerous lessons learned and key takeaways. There are numerous reasons for engaging experienced resources to assist with the SOX implementation. Some lessons learned include:

• Control related material weaknesses are generally the result of control gaps or poorly designed controls, not a result of operating failures.
• Start early and obtain the necessary SOX experienced resources. Remember that the SOX implementation and internal controls over financial reporting (ICFO) usually falls on accounting and finance. Not only are these professionals tasked with numerous IPO responsibilities, but they are also charged with implementing the new and changed controls. Remember, these are finance/accounting professionals, not experts on internal controls.
• Successful SOX requires the employees performing the controls to own the controls. Outside expertise will go away and therefore control ownership is more likely to be accepted by the company employees.
• The cost is generally high and usually unknown. Engaging an organization experienced in SOX implementation can provide cost estimates. Starting early allows you to spread the cost over a longer time period.
• The Executive Team must openly demonstrate their support of the SOX implementation.
• The SOX implementation requires dedicated resources. Using an experienced SOX implementation team provides dedicated resources. Take the time to find an organization that will train your employees and provide you the opportunity to own the ongoing SOX process.
• SOX is not just about compliance. It is an opportunity to add value and improve the organization’s processes that impact financial reporting.
• Your external auditors will be assessing the SOX implementation. Get them involved early. Select an experienced SOX implementation team that has a track record of the external auditors relying upon their work.
• Expect the SOX implementation to require changes. Allow enough lead time to implement those changes. Be aware that new technology may be the best solution. Change is best done when there is time to plan. Measure twice and cut once.
• Information Technology is an important part of an organization’s internal control structure. Good ITGC provides opportunities for reliance on automated controls. Reliable and accurate automated controls reduce the risk of manual errors and omissions.

If you are interested in learning more about SOX implementation, contact Elaine Nissley, Principle in charge of the Internal Audit & Management Consulting segment at McKonly & Asbury.

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