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Cornerstone Research’s Elaine Harwood on Trends in PCAOB, SEC Accounting and Auditing Enforcement Actions

Bill Flook  Editor, Accounting and Compliance Alert

· 7 minute read

Bill Flook  Editor, Accounting and Compliance Alert

· 7 minute read

The number of SEC accounting and auditing enforcement actions rose by 55 percent in fiscal 2022 – with jumps in cases relating to material internal control weaknesses and restatements, and a greater focus on individual respondents – while the PCAOB saw its own spike in actions in calendar year 2022, according to reports by Cornerstone Research. Cornerstone Research Senior Vice President Elaine Harwood, who heads their accounting practice and coauthored the reports, discussed the trends in a June 14, 2023, conversation with Thomson Reuters.

The late April SEC report, which covers the federal fiscal year running through September 2022, tallies a broader range of actions than just the commission’s Accounting and Auditing Enforcement releases (certain actions with accounting- or auditing-related allegations from the Division of Enforcement’s annual report are also included). This is the first report to be separated from the PCAOB data, which is covered under a separate report released in February. It is also the first such report to capture a full fiscal year of Gary Gensler’s tenure as SEC chair.

Cornerstone Research tallied 68 new actions in fiscal 2022, up from 44 in the prior fiscal year. Half of those actions came in the fourth quarter of fiscal 2022.

“We see that the large increase is consistent with the SEC’s public statements,” Harwood said, pointing to the November 2022 SEC press release detailing overall enforcement results for the year and declaring as a high enforcement priority issuers or employees who make materially inaccurate disclosures and auditors who violate laws and rules in connection with those disclosures.

That figure is still down from just before the COVID-19 pandemic, when in fiscal 2019 the commission launched 93 actions.

And despite the increase in the total number of accounting and auditing actions from fiscal 2021 to 2022, total monetary settlements shrank over the same period. In fiscal 2022, the commission imposed a total $625 million in monetary settlements on 65 of the 90 settling respondents. That total is down more than 60 percent from the prior year, which can be partly explained by the absence of very large single settlements.

“We do see from our data that it is it is not unusual to have a year” in which there is a very large settlement of over $1 billion, Harwood said.

The drop, she noted, was surprising when compared to the overall record set by the SEC in fiscal 2022. During that period, the commission notched an all-time high of $6.4 billion in penalties, disgorgement and pre-judgment interest across its broader enforcement program.

The Cornerstone Research report also detailed an increase in actions that referred to material internal control weakness and announced restatements. Of the 68 new actions brought in fiscal 2022, 18 referred to both announced restatement and material weakness, five referred to announced material weakness only and 18 referred to restatements only, compared to 3, 3 and 17 in the prior year, respectively.

Fiscal 2022, as well, saw an expansion of alleged violations of the Section 304 of the Sarbanes-Oxley Act of 2002, with nine actions that year compared to three in the prior year. Section 304 allows for SEC clawbacks of incentive compensation in the event of a restatement due to misconduct, applying to CEOs and CFOs.

The fiscal year ended shortly before the SEC finalized broader clawback rules under the Dodd-Frank Act, which apply to a wider range of executives and cover both “Big R” and “little r” restatements. (See SEC Adopts Dodd-Frank Executive Compensation Clawback Rules in the Oct. 27, 2022, edition of Accounting & Compliance Alert.) Sec. 954 of PL111-203

Another shift in the 2022 fiscal year: more than half of the actions (53 percent) were against only individual respondents and not firms, up from 34 percent in the prior year, while 28 percent of actions were against firms only and the remaining 19 percent were against individuals and firms, compared to 43 percent and 23 percent in fiscal 2021, respectively.

That shift tracks with remarks made by SEC Commissioner Mark Uyeda in a speech in London last month that drove home the SEC’s enforcement focus around accounting violations, and against individuals in particular. (See Commissioner Uyeda: ‘Accounting violations is a focus for the SEC’ in the May 22, 2023, edition of ACA.)

“Sometimes, even the most high-functioning audit committee will not be able to prevent accounting violations at a company,” Uyeda said. “When this happens, a potential cause is the activities of one or more bad actors within the company’s management. When bringing enforcement actions in these instances, the SEC should continue to focus on pursuing those individual bad actors and levying appropriate remedies against them. An enforcement program focused solely on charging and imposing monetary penalties on firms, without parallel actions to hold individuals accountable, will mostly harm the firms’ current shareholders and will not discourage individuals from becoming bad actors in the future. Accordingly, charges and penalties against individuals serve as the strongest disincentive against people becoming bad actors and engaging in the same activities in the future.”

The PCAOB also saw an increase in disclosed enforcement actions in 2022, and even more significant growth in monetary penalties (the board is required by Sarbanes-Oxley to keep disciplinary proceedings behind closed doors until they are finalized). The audit watchdog made public 29 enforcement actions involving the performance of an audit and/or a firm’s quality control system, according to Cornerstone Research’s February report, up from 18 in 2021. Total monetary penalties hit a record $10.5 million, almost 10 times more that the previous year. The bulk of those penalties were disclosed in the fourth quarter.

PCAOB Chair Erica Williams was sworn in January 2022, part of a new board that took over following Gensler’s ouster of former PCAOB Chairman William Duhnke and other board members in 2021.

Asked about the increase in PCAOB actions and penalties, Harwood pointed to “a number of public statements by the PCAOB that they have a strategic goal to strengthen enforcement.”

Williams, at a November speech at the annual audit conference organized by Baruch College’s Zicklin School of Business, said the board is “approaching enforcement with renewed vigilance.”

“Those who break the rules should know we won’t be constrained by the types of cases the PCAOB has pursued in the past,” she said. “We won’t be limited to the level of penalties that have previously been assessed.”

Also last year, the PCAOB expanded its enforcement focus on non-U.S. respondents, with 15 actions compared to six the prior year. That represents the first time in the board’s history when the number of actions against non-U.S. respondents was more than the number of U.S. respondents (14). And respondents outside of the U.S. were responsible for almost 90 percent of monetary penalties.

In zero actions disclosed last year, however, did the PCAOB allege auditor independence violations, despite the board’s expanding focus on the area. The PCAOB in May rolled out expanded inspection reports with a new section addressing instances of noncompliance with PCAOB and potentially SEC independence rules. Several firms have been flagged under that new section in recent rounds of reports. (See PCAOB Faults Six Firms for Audit Problems in First Round of Inspection Reports with New Independence Section in the May 3, 2023, edition of ACA.)

Harwood said it’s important to note the caveat in the new section that an instance of noncompliance with PCAOB independence rules or potential noncompliance with SEC rules “does not necessarily mean that the Board has concluded the firm was not objective and impartial throughout the audit and professional engagement period.”

“We would expect that whether this new disclosure is going to lead to enforcement will depend on whether or not that conclusion is reached by the PCAOB or the SEC,” she said.


This article originally appeared in the June 20, 2023 edition of Accounting & Compliance Alert, available on Checkpoint.

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