While it is difficult to say exactly what the PCAOB’s priorities will be with William Duhnke gone as its chair as of early June 2021 because the SEC—which oversees the audit regulatory board—is in the process of deciding who will serve as the audit regulatory board’s five members, it is a safe bet that change is coming.
“In the statement announcing Duhnke’s removal, [SEC Chair Gary Gensler] said that the ‘PCAOB has an opportunity to live up to Congress’s vision in the Sarbanes-Oxley Act’ and that he looked forward to setting the PCAOB ‘on a path to better protect investors by ensuring that public company audits are informative, accurate, and independent,’” former PCAOB acting chairman Daniel Goelzer said. “That sounds like a call for significant change.”
That change is likely to reorient the PCAOB’s focus to be more investor-centric. Some have viewed that the board had become too lenient towards the public company auditing profession during Duhnke’s tenure.
“There were clearly some strong views that the PCAOB was not … serving its mission on behalf of investors,” said former FASB chairman Robert Herz, who served as a member of the PCAOB’s Standing Advisory Group (SAG).
In particular, Herz pointed to then-board member Jay Brown’s speeches and public statements criticizing the board that it was ignoring investor views in the past few years.
“I am sure they will probably go through once they get most of the new board on, they probably go through some kind of agenda setting process, consultation, to figure out what’s next,” Herz said.
What Investors Want
Jack Ciesielski, founder of investment research firm R.G. Associates, said he wants to see the PCAOB become what is was supposed to be: “A watchdog over the watchdogs for investors. One that operates independently as much as possible, without political interference.”
“I think that the FASB is a good model for that kind of operation,” added Ciesielski, who previously served on the FASB’s Investors Technical Advisory Committee (ITAC) and the board’s Emerging Issues Task Force (EITF), on which he was again appointed to serve recently. “I don’t think we’ve ever had something quite that ideal at the PCAOB.”
The SEC’s oversight of the FASB is different. The Financial Accounting Foundation (FAF) selects members of the FASB, although the commission can step in especially if it believes a certain candidate is problematic. The FAF is the parent organization of the FASB.
“One of the good things I find at the FASB is that you know board members come and go, but the board they are not leaving at once and projects continue,” explained Herz, who served as chair of the FASB from 2002 to 2010. “Congress tries to intervene from time to time, but the SEC has always been— other than having approval rights over appointments to the FAF and the FASB— which in my experience was they just wanted to make sure they weren’t appointing somebody who had a checkered past or had current problems with enforcement or taxes or whatever, they kind of left us to our own design so to speak as long as the process was working right and all that.”
One way to be a watchdog, in the meantime, is to truly hear from investors.
“I think the first thing I would do would be appoint members of the IAG and SAG and hold public meetings asking for their input on the agenda,” said Jeff Mahoney, general counsel of the Council of Institutional Investors (CII).
He was making a reference to the Investor Advisory Group (IAG) and SAG. Both were abolished in late March in favor of the Standards Advisory Group. But investor advocates strongly criticized the new advisory panel as being somewhat anti-investor, and PCAOB Acting Chairperson Duane DesParte a month ago hit the brakes on forming the new group.
Goelzer said a lot depends on who exactly will be the voting members of the PCAOB, but at a minimum, he said that the PCAOB will likely revive the old SAG and the IAG.
The panels may “become more open than has been the case in recent years to input from investors and other users of audited financial information,” Goelzer said.
“There have also been suggestions over the past few years that the PCAOB should more frequently pursue enforcement actions against auditors for deficiencies uncovered in PCAOB inspections and that enforcement actions and inspection reports should identify the reporting company involved, not just the accounting firm,” Goelzer said. “I wouldn’t be surprised if those things were at least considered.”
When PCAOB inspectors find deficiency in an audit of a company by a registered audit firm, the board labels it as Issuer A or Issuer B and so forth in its inspection reports of that audit firm.
Currently, auditors mainly scrutinize the financial statements, but some investors have been pressing the PCAOB to write rules that would require auditors to do more on non-financial matters, including key performance measures and environmental, social, and governance (ESG) matters.
“Part of Gensler’s agenda has to do with ESG, so it would be funny, surprising if there wasn’t some tinge of that in the PCAOB mission going forward,” Ciesielski said.
The pace of standard-setting was sluggish during Duhnke’s tenure, and that may also change, Goelzer added.
“Maybe we will start hearing again about possible audit firm rotation,” Goelzer said. Because of strong pushback by audit firms and their public company clients, the PCAOB contemplated but never moved ahead with mandatory audit firm rotation.
The board in 2011 issued Concept Release No. 2011-006, Auditor Independence and Audit Firm Rotation, in August 2011, revisiting an issue that was last debated in depth while the Sarbanes-Oxley Act of 2002 was working its way through Congress.
A requirement of auditor rotation was included in a first draft of Sarbanes-Oxley but was dropped from the final law. Instead, Section 203 only required that the engagement partner change every fifth year. The preliminary rulemaking document sparked a heated debate about whether forcing public companies to change auditors every few years would improve audit quality and strengthen investor protections.
Most challenged the premise that term limits could improve audit quality. Auditors, public companies, and audit committees complained loudly that it would drive up costs and cause major disruption without much benefit.
Supporters said that auditor-client relationships, once they last more than a few years, undermine an audit firm’s objectivity and independence and lead it into accepting questionable decisions by a client in order to protect millions of dollars in fees. In their view, term limits would break this pattern and give auditors the freedom to challenge a company on its accounting practices.
In addition, other old reform ideas might resurface with the new PCAOB.
“The U.K.’s ideas about separating audit and consulting might gain traction here,” Goelzer said. “Some of the old Treasury Advisory Group recommendations could come back to life, such as publication of audit firm financial statements.”
He was making a reference to a package of recommendations made by the Treasury Department’s Advisory Committee on the Auditing Profession (ACAP) in 2008, which called for expanded auditor’s report, fraud prevention, development of audit quality indicators (AQIs), among others.
The PCAOB did complete a project to make the auditor’s report more useful, but others, like the AQI, got shelved after audit firms resisted a regulatory mandate.
This article originally appeared in the July 28, 2021 edition of Accounting & Compliance Alert, available on Checkpoint.
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