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PCAOB chairman: Audit firm changes may become mandatory

Jun 14th 2011
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The chair of the Public Company Accounting Oversight Board has signaled that public companies may be required to regularly change their auditing firms to reduce conflicts of interest.

PCAOB Chair James R. Doty said in a speech last week that auditors, though well-intentioned, may fail to recognize unconscious biases, and despite independence requirements, he's seen "seemingly unrestrained enthusiasm" for selling services to audit clients.

Doty, speaking at the 30th Annual SEC and Financial Reporting Institute Conference in Pasadena, CA, said auditors are under real pressures to please clients, and too often auditors are accepting "less than persuasive" evidence. He called some examples "galling in their simplicity."

"For example", he said",PCAOB inspectors found at one large firm that an engagement team was aware that a significant contract was not signed until the early hours of the fourth quarter. Nevertheless, the audit partner allowed the company to book the transaction in the third quarter, which allowed the company to meet its earnings target." He noted that the company had been an audit client of the firm for nearly 50 years.

Because of the "disturbing lack of skepticism" PCAOB is seeing, the board is considering whether "mandatory audit firm rotation would help address the inherent conflict created because the auditor is paid by the client", he said.

Doty noted that the PCAOB has eight years of inspections under its belt, with more than 2,800 engagements and hundreds of audit failures that have been analyzed.

"I don't have a predetermined idea as to whether the PCAOB ultimately should adopt term limits. My only predilection is that the PCAOB deepen the analysis of how we can better insulate auditors from client pressure and shift their mindset to protecting the investing public."

The PCAOB will issue a concept release on the issue of auditor independence as well as a concept release on changing the auditor's reporting model. Doty noted that more detail and insight from the auditor is needed beyond the current "pass-fail option", which he said has "limited relevance."

Doty also expects the PCAOB to consider several audit transparency projects. In July 2009, the PCAOB sought feedback on whether it should require engagement partners to sign audit reports. The PCOAB may expand the proposal to include another disclosure issue in which large multinational companies have a large part of their audits conducted by overseas firms.

"Many of those non-U.S. firms, including the affiliates of the largest audit firms, are independently registered with the PCAOB, but are based in jurisdictions that bar our inspections", he said. "Nevertheless, investors are left with the impression that the signing firm performed all the procedures described in the audit report. That is generally not the case."


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