US Watchdog Unveils Plan to Overhaul Audit Reports

Tuesday, 13 Aug 2013 11:12 AM

 

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A U.S. regulator unveiled a controversial proposal on Tuesday that would require auditors to reveal more details about the publicly traded companies whose books they examine, a move intended to arm investors with more information.

The Public Company Accounting Oversight Board said that its proposal, if ultimately adopted, would mark the most significant overhaul to the audit report since the 1940s.

For the past 70 years, auditors have adhered to a standard three-paragraph audit opinion attached to company annual reports that essentially gives the company's books either a passing or a failing grade.

The reports say whether the financial statements fairly present the company's financial condition and whether they followed generally accepted accounting principles (GAAP).

Tuesday's proposal would not do away with the current pass-fail model. But for the first time in decades, it would require auditors to evaluate information besides the financial statements and describe the results.

Investor groups have in recent years criticized the three-paragraph boilerplate audit report as nothing more than a rubber stamp that fails to give investors enough insight into the auditor's findings, including any concerns that may have arisen during the audit.

But public companies and auditors say that management, and not auditors, should be required to disclose any additional information. They have cautioned against a sweeping overhaul of how auditors report their findings, saying the information could be taken out of context, conflict with disclosures by management or raise confidentiality concerns.

Tuesday's proposal by the PCAOB offers a middle-of-the-road approach that aims to strike a balance between what reform advocates want and what auditors and public companies are willing to accept.

It would require auditors to communicate so-called "critical audit matters" to investors. Such matters would include issues that involved the most difficult or subjective judgments or issues that posed difficulties for the auditors to obtain sufficient evidence.

In addition, Tuesday's proposal calls for auditors to make several other disclosures related to their independence and the amount of time they have reviewed the books of their clients.

"The proposed standards before the board today would make the audit report more relevant to investors by establishing criteria and a framework for providing deeper insights from the audit," said PCAOB Chairman Jim Doty in prepared remarks.

"I see the proposed standards as a first step. They have been a long time coming, more than 10 years after Enron and other financial reporting failures."

The PCAOB was created by the 2002 Sarbanes-Oxley Act as a regulatory response to the accounting scandals that led to the downfall of companies such as Enron, Worldcom and Tyco.

It is tasked with inspecting auditors, establishing audit standards and taking disciplinary actions against lawbreakers. Much of its time is spent overseeing the Big Four corporate auditing firms - PricewaterhouseCoopers, Ernst & Young, KPMG and Deloitte.

Under Doty's leadership, the PCAOB has explored more aggressive reforms in response to the 2007-2009 financial crisis, in which regulators say many auditors did not always conduct good audits.

EXPANDED ROLE

The PCAOB first started formally exploring enhancing audit reports in 2011, when it began seeking comments on the concept.

Reform advocates have suggested that auditors should provide investors with additional assurances about information outside of financial statements. One way they said this could be accomplished is through an "auditor's discussion and analysis" that would detail how the audit was conducted and what the auditors thought of the company's accounting policies.

That idea, which is not favored by public companies and the accounting profession, was not included in Tuesday's proposal.

If the PCAOB garners enough votes on Tuesday morning from board members, the proposal will be issued for public comment.

A second vote would be needed to approve a final rule. Even then, the SEC would still ultimately need to sign off before any PCAOB rule could go into effect, as is standard procedure.

But adoption of the plan is likely still far off, as PCAOB board members expressed varying opinions on the proposal Tuesday in prepared remarks.

PCAOB Board Member Steve Harris said he remains "concerned that the proposals are not strong enough to meet the needs of investors."

Board member Jay Hanson, by contrast, said he had concerns that the reporting of critical audit matters could lead to the disclosure of information that is supposed to be kept confidential. He also was skeptical of whether it is appropriate for auditors to disclose their tenure with a particular client.

© 2014 Thomson/Reuters. All rights reserved.

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