Pacific Sunwear of California, Inc. |
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Intermediate |
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As a publicly owned company in the United States, Pacific Sunwear of
California, Inc. (PacSun) was required to comply with the provisions of
the Sarbanes-Oxley Act of 2002 (SOX). Among other things, SOX required
top management to test their company's system of internal controls and
to certify that it is effective. It also required the company's
external auditors to conduct independent tests of those controls and to
express their independent opinion about the effectiveness of the
company's system.
In 2006, after their second year of complying with SOX, PacSun
management looked back and concluded that the process had provided a
few benefits, but they thought that the compliance costs far exceeded
the benefits, at least to the company. With the compliance processes
now well controlled and the costs of compliance having been sharply
reduced, they were turning their attention back to issues of more
business relevance, such as business continuity planning and, more
generally, controlling business risks.
THE COMPANY
PacSun's mission is to be “the leading lifestyle retailer of casual
fashion apparel, footwear and accessories for teens and young adults.”
The company's origins were as a small surf shop that started in 1980 in
Newport Beach, California. The company was incorporated in August 1982,
and it went public in 1993. Its stock is traded on NASDAQ using the
symbol PSUN. By 2006, PacSun was a large company, with annual sales of
almost $1.4 billion (see Exhibit 1). Over the years, the company's
stock was split 3-for-2 six times, and was one of the fastest growing
stocks on the NASDAQ stock exchange.
PacSun operated chains of mostly mall-based stores with three distinct
retail concepts. As of July 29, 2006, it ran 826 PacSun stores, 102
PacSun Outlet stores, 201 d.e.m.o. stores and six One Thousand Steps
stores, for a total of 1,112 stores located in all 50 states of the
U.S. and Puerto Rico. PacSun and PacSun Outlet stores specialized in
board sport-inspired casual apparel, footwear, and related accessories.
d.e.m.o. specialized in fashion-focused street wear. One Thousand
Steps, a new concept started in 2006, targeted 18- to 24-year-old
customers and featured an assortment of casual, fashion-forward,
branded footwear and related accessories.
In its stores, PacSun offered a wide selection of well-known
board-sport inspired name brands, including Quiksilver, Roxy, DC Shoes,
Billabong, Hurley, and Volcom. The company supplemented the name brand
offerings with its own proprietary brands. The company had its own
product design group that, in collaboration with the buying staff,
designed the proprietary brand merchandise. The company also had a
sourcing group that oversaw the manufacture and delivery of its
proprietary brand merchandise with manufacturing contracted out both
domestically and internationally.
Assignment
1. Evaluate the process that PacSun went through to
comply with SOX, and particularly Section 404. Was that process as
effective and efficient as it could have been?
2. Are the “significant
deficiencies” that were identified in each of the two years of the
audit evidence of control system flaws or largely irrelevant technical
violations? In other words, should disclosure of these deficiencies
have had a negative effect on PacSun's stock price?
3. PacSun executives seem
convinced that the costs of complying with SOX were greater than the
benefits to the company. Why did PacSun not benefit from the compliance
process to the same extent as some other companies? Or were their
compliance costs too high?
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