The Public Company Accounting Oversight Board (PCAOB) on April 9, 2024, issued two separate but related proposals intended to increase audit firm transparency.
One proposal would require firms to disclose a set of 11 standardized metrics that are intended to give some insight into the performance of audits, which reform and investor advocates have pushed the board to do so since at least 2008.
The other proposal would require firms to provide more disclosure, such as financial data and governance information in annual and special reporting forms filed with the PCAOB. This was also recommended by reform advocates in 2008.
The first proposal continues an old project, which was originally called audit quality indicator (AQI). Previous PCAOB leaders published an AQI concept release in 2015 but set it aside almost a decade ago because of strong resistance by audit firms.
But the project was revived and renamed as Firm and Engagement Performance Metrics under current Chair Erica Williams’ leadership.
The rebranding stems from potential confusion that the metrics could predict or guarantee a certain level of audit quality. Instead, the metrics are intended to give some data about how firms manage and conduct the audits.
“Sound and consistent information bolsters confidence in our capital markets, and can drive audit quality,” Williams said. “Informed by extensive study and stakeholder input, today’s proposals would strengthen PCAOB oversight and equip investors, audit committees, and others with clear, consistent, and actionable data related to the audit.”
Firm and Engagement Performance Metrics Proposal
The PCAOB said that the proposal, if adopted, would provide useful data to help investors make informed decision when ratifying the audit committee’s choice of external auditors. Audit committees would also be armed with a wealth of information when selecting auditors and monitoring their performance. Moreover, large firms voluntarily provide firm-level reports, but the standardized metrics will allow for easier analysis and comparison across engagements and firms.
The proposed metrics are firm- and engagement-levels and are as follows:
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- partner and manager involvement;
- workload;
- audit resources;
- audit personnel experience;
- audit personnel industry experience;
- tenure and retention;
- audit hours and risk areas (engagement only);
- allocation of audit hours
- quality performance ratings and compensation (firm only);
- audit firms’ internal monitoring; and
- restatement history (firm only).
The metrics include“ information about firms’ overall audit practice, for example, how partners’ quality performance ratings affect their compensation, and information about individual engagements, for example the time incurred by partners and managers on the engagement team related to areas of significant risks, critical accounting policies and practices, and critical accounting estimates,” Williams explained.
Firm-level metrics would be reported on a new Form FM, and this requirement would apply to accounting firms that serve as the lead auditor for at least one accelerated filer or large accelerated filer.
An accelerated filer has a public float of $75 million or more but less than $700 million, according to the SEC’s definition. A large accelerated filer has a public float of $700 million or more.
Engagement-level metrics would be on revised Form AP, which would be renamed Audit Participants and Metrics. This requirement is also for firms that serve as the lead auditor for at least one accelerated filer or large accelerated filer.
In addition, the PCAOB is proposing to allow firms to write limited narrative descriptions on both Form FM and Form AP to provide some context and explanation about the metrics. This would not be a requirement.
The vote to issue the proposal was unanimous.
Firm Reporting Proposal
On the second proposal, the PCAOB would revise the annual and special reporting requirements, also known as Form 2 and Form 3, respectively. It is intended “to facilitate the disclosure of more complete, standardized, and timely information by registered public accounting firms” for five key areas: financial data; audit firm governance information; network structure; special reporting; and cybersecurity.
For financial data, the proposal would, among other things, require large firms to submit their financial statements confidentially to the PCAOB.
For audit firm governance, the board wants firms to add information to Form 2 about leadership, legal structure, ownership, and other relevant governance information.
In terms of network information, the PCAOB would require more detailed disclosure of any network arrangements to which a firm is subject to, including financial obligations and information-sharing arrangements on Form 2.
The PCAOB is modernizing Form 3 reporting by shortening the timeframe to report from 30 days to 14 days. There would be a new confidential special reporting requirement for events material to a firm’s organization, operations, liquidity, or provision of audit services. Examples of confidential reporting are about a firm’s ability to continue as a going concern and a planned acquisition of the firm.
The new cybersecurity disclosure would also be confidential. Firms must report “significant” cybersecurity events within five business days. Firms would also need to do periodic public reporting of a brief description of their policies and procedures, if they have any, to identify and manage cybersecurity risks.
The proposal includes a provision under the PCAOB’s quality control (QC) proposal that would require firms to report their revised QC policies and procedures if the board adopts the QC proposal. The PCAOB is planning to advance its QC project this year.
The PCAOB said that it is revising the reporting requirements because they have not been substantively “reevaluated” since adoption in 2008.
“Enhanced reporting requirements also have the potential to facilitate the PCAOB’s oversight functions and its ability to protect investors,” the board said.
The vote was 4 to 1 with board member Christina Ho dissenting. She called this proposal a regulatory overreach. More information is not necessarily the answer, in hew view. It might increase burdens that eclipse any benefits especially for smaller and medium-size firms.
Comment deadline is June 7 for both proposals.
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