Securities and Exchange Commission member Hester Peirce in a speech said that it may serve the public better if the PCAOB were eliminated and its functions incorporated into the commission—an idea which had been debated from time to time in the past but never became a reality.
In Peirce’s view, the current construct is flawed. The PCAOB develops standards that auditors of public company financial statements must follow. The board also has audit inspection and enforcement authorities. But because auditors function as gatekeepers of financial reporting in capital markets, the PCAOB’s functions are carried out under the auspices of the SEC. This audit regulatory framework was established by the Sarbanes-Oxley Act of 2002.
“Had Congress simply charged the SEC with regulating auditors, it could have avoided the PCAOB’s constitutional defects and consolidated related authorities in one government agency,” Peirce said at the 2022 Audit Committee Summit hosted by the University of California in Irvine on Oct. 7. “This approach would also have diverted the considerable SEC resources that have since gone into overseeing the PCAOB, its budget, and its standard-setting, inspections, and enforcement activity to go, instead, directly into fostering audit quality.”
Sarbanes-Oxley established the PCAOB in response to accounting scandals at companies like Enron and WorldCom. But with 20 years of insight, it may be time to keep the law’s provisions that work while removing those that do not, in Peirce’s view.
As Peirce alluded to in her remarks, all significant PCAOB decisions—from yearly budget to revised auditing standards—must be approved by the securities regulator before they become effective, which can be a cumbersome process. For one, it delays new standards that come online because the SEC first puts out the PCAOB’s newly adopted rules for public comment before deciding whether to approve the new rules or not. In practice, the PCAOB has not really proceeded to adopt rules that it knows the SEC will reject. Moreover, the SEC appoints the five voting members of the PCAOB.
The securities regulator can also bring enforcement actions against auditors. Further, “in investigating misconduct at public companies, the SEC often also looks at the auditor, which means the PCAOB generally does not,” Peirce said.
In making her case to change the current status quo, Peirce also cited a 2010 Supreme Court opinion that said the PCAOB—a government-appointed entity with expansive powers to govern an entire industry—is constitutionally flawed because board members’ tenure has too many layers of protection. The high court decided to make it easier for the SEC to remove PCAOB members. This would afford the President “adequate control over the Board, which is the regulator of first resort and the primary law enforcement authority for a vital sector of our economy,” according to the Supreme Court.
“Practically speaking, the PCAOB is not, as the Supreme Court envisioned, ‘the primary law enforcement agency for a vital sector of our economy,’” she said. “Perhaps casting about for a way to spend its enforcement resources, the PCAOB has signaled recently that it will bring enforcement actions for single acts of negligent conduct. If the PCAOB were folded into the SEC, its enforcement resources could be focused on more serious violations.”
In addition, Peirce pointed to the SEC’s deep engagement in PCAOB standard-setting and the interactions between the regulators’ rules. Thus, she believes that it may be more efficient for Congress to delegate standard-setting to the SEC.
Peirce noted that SEC Chair Gary Gensler recently directed not only the commission but also the PCAOB to review and update auditor independence standards. Both regulators have independence rules.
“Why we and the PCAOB need to rewrite independence rules that we both recently updated is unclear, but the two projects are sure to be linked,” she said. “Finally and importantly, if the PCAOB drifts from its mission in the coming years into political hot topics of the day, as some advocate, calls to fold it into the SEC are likely to increase.”
Peirce Not Alone in Wanting to Eliminate PCAOB
Peirce has plenty of allies in questioning the PCAOB’s standalone existence.
For example, Republicans believe that the SEC absorbing the board’s functions will save government money. A budget proposal during the Trump administration in 2020 proposed folding the PCAOB into the SEC. It was not implemented. But at the time, the White House believed that it would eliminate regulatory ambiguity and duplicative authorities. The administration estimated that this would save $237 million over five years and $580 million over 10 years.
In October last year, Representative Bill Huizenga, a Republican on the House Financial Services Committee, introduced a bill that would “transfer” the PCAOB to the SEC. It has not moved beyond the proposed stage.
The congressman in part introduced the bill because he was unhappy over SEC Chair Gensler’s June 2021 firing of former PCAOB Chairman William Duhnke, who has the support of Republicans on the Hill. Gensler removed Duhnke after investor advocates and some Democrats said that he was ignoring investor views while being too lenient on audit firms.
This article originally appeared in the October 14, 2022 edition of Accounting & Compliance Alert, available on Checkpoint.
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