Sarbanes-Oxley and the effect of restatements on CEO and CFO compensation and turnover

Accounting scandals at Enron, WorldCom, and other corporations sparked regulatory reforms designed to hold managers and boards more accountable for the financial reports issued by their firms. I examine whether a shift in accountability has also occurred inside the firm by testing how boards discipline managers for accounting restatements, and whether disciplinary action has become more severe after passage of the Sarbanes-Oxley Act (SOX) and related reforms. The disciplinary actions I focus on are job termination and reductions in bonus payouts. To assess the extent to which boards hold managers accountable for financial reporting decisions and internal controls throughout the organization, I focus on restatements that are not obvious frauds perpetrated by top management.; I find no evidence that the turnover of CEOs or CFOs is more sensitive to these types of restatements after SOX. In fact, the association between CEO turnover and restatements observed before SOX disappears after SOX, although the decline in association around SOX is not statistically significant. CFO turnover is associated with restatements before and after SOX, with no change in association around SOX. Analysis of restatement characteristics reveals that restatements become less severe after SOX. However, even after controlling for the decline in restatement severity, I find no change in the sensitivity of executive turnover to restatements around SOX.; Tests of bonus compensation suggest that after SOX boards respond to restatements by withholding entire bonuses from the CEOs who retain their jobs. Restatements are associated with the cancellation of CEO bonuses after SOX but not before, and the change in this association across the two SOX periods is statistically significant. No association between restatements and the bonuses of CFOs is observed in either SOX period. In total, the evidence suggests that boards respond to the lower-severity restatements of the post-SOX period by withholding bonuses from CEOs rather than terminating them. In contrast, boards continue to discipline CFOs after SOX through termination rather than bonus penalties.