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Accounting Firms, Investors Support Revision of Auditing Standards on Specialists

The U.S. Chamber of Commerce said the PCAOB does not seem to have grasped the issues auditors face when they rely on actuaries, appraisers, and other specialists while they review a client’s financial statements. However, the board’s chief auditor said there was general support for the PCAOB to update the standards, and investors say there is greater risk of fraud or error with the increased use of estimates and specialists in the past several years.

As the PCAOB is working to update its auditing standards governing the use of appraisers, actuaries, and other specialists, some business groups have questioned whether a change is necessary.

Business associations believe auditors already perform a significant amount of work on estimates prepared by specialists, and they are skeptical it would pass the cost-benefit test. (See Business Lobby Wants to Delay Work on Specialist Guidance in the August 10, 2015, edition of Accounting & Compliance Alert .)

However, others such as investors, accounting firms, and specialists supported the board’s effort in response to Staff Consultation Paper No. 2015-01, The Auditor’s Use of the Work of Specialists . The document was issued in May 2015 and had a comment deadline of July 31. (See Valuation Firm’s Comment Letter Says Qualification of Specialists Varies in the August 14, 2015, edition of Accounting & Compliance Alert and Audit Firm Comment Letters Express Support for Amending, Not Rescinding, Specialist Standard in the August 4, 2015, edition.)

For example, the AFL-CIO said in a July 29 comment letter that the PCAOB should strengthen the standards because of material risks of fraud or error related to the use of the work of specialists.

“We appreciate all comment letters we get from every party,” PCAOB Chief Auditor Martin Baumann said in an August 20 interview. “Commenters were very supportive of the fact that we sought this kind of outreach via a consultation paper before going directly to standard-setting. Generally, commenters supported the need for enhanced requirement related to the auditor’s use of the work of specialists.”

The audit regulator wants to update the standard in part because audit firm inspections regularly uncover mishandling of the dealings with specialists.

Further, the PCAOB said the interim standards on specialists may also need updating because they have not changed much since the AICPA adopted them in 1975, when third-party specialists played a smaller role in financial reporting. In the decades since, business transactions and companies’ use of outside specialists have grown more complicated. The project is closely linked to the board’s effort to improve audits of accounting estimates. With the increasing number of complex accounting estimates, including fair value measurements, in financial statements, auditor reliance upon specialists to test client valuations has grown significantly.

Business groups like the American Bankers Association and the U.S. Chamber of Commerce fear the change will only add costs without providing any benefit. The chamber even questioned whether the board has done enough work to proceed.

“As it stands, the consultation paper gives the impression that academic research, based on a limited number of studies, rather than practice, has had more influence on the PCAOB’s thinking to date in regards to the issues,” wrote Tom Quaadman, the Chamber’s vice president for the Center for Capital Markets Competitiveness, on July 31. The business lobby “strongly encourages the PCAOB to complete this work before reaching any decision on whether or how to proceed.”

The PCAOB’s chief auditor, however, disputed Quaadman’s assessment of the board’s work.

“The staff’s understanding about the practice is based upon the collective experience of the PCAOB’s staff, which is really extensive,” Baumann said. The work “was carefully reviewed by our inspectors who see practice in this area from all different firms, and we discussed this extensively with them.”

Baumann added that the board previously had discussions about the use of specialists with the board’s Standing Advisory Group and also reviewed academic research.

“If we didn’t review academic research, we would be criticized,” he said.

The staff paper asks whether the board accurately reflects current practice. Eleven responded to the question, including the major accounting firms and specialists, and all 11 say the staff paper did accurately reflect current practice.

“So, I think it’s clear that we understood current practice and we accurately described it in the consultation paper,” Baumann said.

The U.S. Chamber did not respond to request for comment as this story was being written.

Today, Auditing Standard (AS 10) No. 10 , Supervision of the Audit Engagement , lays out basic principles but does not provide specific direction for applying the requirements.

AU Section 336, “Using the Work of a Specialist,” (AU-C Section 620) requires auditors to evaluate the relationship of a specialist to the client, including situations that might impair the specialist’s objectivity. But the standard does not provide specific requirements for carrying out the evaluation. The PCAOB staff developed alternative approaches to improve the standards, including developing new standards that may spell out specific requirements.

As for the next step for the board, Baumann said the staff is analyzing the comment letters on specialists and will meet with the board and discuss recommendations about how the rules should be changed.

The staff will also consider comments the board got in response to the August 2014 Staff Consultation Paper : Auditing Accounting Estimates and Fair Value Measurements .

“We will also consider recommendations of potentially trying to align those projects, and what that would mean in terms of timing,” Baumann said.

Asked about whether there will be one big proposal or separate proposals governing specialists and estimates, Baumann said he did not know the answer right now.

He personally said he wanted the timing of the two aligned. He expected proposals to be issued in 2016.

“But I think if we put all of it into one proposal, it’s probably a lot to chew in one proposal,” Baumann said.

Moreover, he said specialists are not only used in fair value estimates. “They are also used in determining physical characteristics… for other objects such as a piece of art…gem, or oil,” he said. “That’s really not based on estimates.”

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