[Federal Register Volume 73, Number 147 (Wednesday, July 30, 2008)]
[Notices]
[Pages 44315-44350]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: E8-17441]
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DEPARTMENT OF THE TREASURY
Second Draft Report of the Advisory Committee on the Auditing
Profession
AGENCY: Office of the Undersecretary for Domestic Finance, Treasury.
ACTION: Notice; request for comments.
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SUMMARY: The Advisory Committee on the Auditing Profession is
publishing a Second Draft Report and soliciting public comment.
DATES: Comments should be received on or before August 26, 2008.
ADDRESSES: Comments may be submitted to the Advisory Committee by any
of the following methods:
Electronic Comments
Use the Department's Internet submission form (http://www.treas.gov/offices/domestic-finance/acap/comments); or
[[Page 44316]]
Paper Comments
Send paper comments in triplicate to Advisory Committee on
the Auditing Profession, Office of Financial Institutions Policy, Room
1418, Department of the Treasury, 1500 Pennsylvania Avenue, NW.,
Washington, DC 20220.
In general, the Department will post all comments on its Web site
(http://www.treas.gov/offices/domestic-finance/acap/comments) without
change, including any business or personal information provided such as
names, addresses, e-mail addresses, or telephone numbers. The
Department will also make such comments available for public inspection
and copying in the Department's Library, Room 1428, Main Department
Building, 1500 Pennsylvania Avenue, NW., Washington, DC 20220, on
official business days between the hours of 10 a.m. and 5 p.m. Eastern
Time. You can make an appointment to inspect comments by telephoning
(202) 622-0990. All comments, including attachments and other
supporting materials, received are part of the public record and
subject to public disclosure. You should submit only information that
you wish to make available publicly.
FOR FURTHER INFORMATION CONTACT: Kristen E. Jaconi, Senior Policy
Advisor to the Under Secretary for Domestic Finance, Department of the
Treasury, Main Department Building, 1500 Pennsylvania Avenue, NW.,
Washington, DC 20220, at (202) 927-6618.
SUPPLEMENTARY INFORMATION: At the request of the two Co-Chairs of the
Department of the Treasury's Advisory Committee on the Auditing
Profession, the Department is publishing this notice soliciting public
comment on the Advisory Committee's Second Draft Report. The text of
the Second Draft Report is found in the appendix to this notice and may
be found on the Web page of the Advisory Committee at http://www.treas.gov/offices/domestic-finance/acap/index.shtml. The appendices
to the Second Draft Report are not included in this notice, but may be
found on the Web page of the Advisory Committee at http://www.treas.gov/offices/domestic-finance/acap/index.shtml. The Second
Draft Report contains the Advisory Committee's developed proposals on
improving the sustainability of a strong and vibrant public company
auditing profession. All interested parties are invited to submit their
comments in the manner described above.
Dated: July 25, 2008.
Taiya Smith,
Executive Secretary.
Appendix: Advisory Committee on the Auditing Profession
Second Draft Report--July 22, 2008
The Department of the Treasury
Second Draft Report of the Advisory Committee on the Auditing
Profession to the U.S. Department of the Treasury
Table of Contents
I. Transmittal Letter [Placeholder]
II. Committee History
III. Background [Placeholder]
IV. Human Capital
V. Firm Structure and Finances
VI. Concentration and Competition
VII. Separate Statements [Placeholder]
VIII. Appendices
A. Official Notice of Establishment of Committee
B. Committee Charter
C. Treasury Secretary Henry M. Paulson, Jr., Remarks at the
Economic Club of New York, New York, NY on Capital Market
Competitiveness (Nov. 20, 2006)
D. Treasury Secretary Henry M. Paulson, Jr., Opening Remarks at
the Treasury Department's Capital Markets Competitiveness Conference
at Georgetown University (Mar. 13, 2007)
E. Paulson Announces First Stage of Capital Markets Action Plan,
Treasury Press Release No. HP-408 (May 17, 2007)
F. Paulson: Financial Reporting Vital to U.S. Market Integrity,
Strong Economy, Treasury Press Release No. HP-407 (May 17, 2008)
G. Paulson Announces Auditing Committee Members to Make
Recommendations for a More Sustainable, Transparent Industry,
Treasury Press Release No. HP-585 (Oct. 2, 2007)
H. Under Secretary for Domestic Finance Robert K. Steel, Welcome
and Introductory Remarks Before the Initial Meeting of the
Department of the Treasury's Advisory Committee on the Auditing
Profession, Treasury Press Release No. HP-610 (Oct. 15, 2007)
I. Committee By-Laws
J. List of Witnesses
K. List of Committee Members, Observers, and Staff
L. Working Discussion Outline
M. Working Bibliography
Transmittal Letter
I. Advisory Committee on the Auditing Profession
[September 2008]
The Honorable Hank M. Paulson, Jr., Secretary,
U.S. Department of the Treasury,
1500 Pennsylvania Avenue, NW.,
Washington, DC 20220.
Dear Secretary Paulson:
On behalf of the Department's Advisory Committee on the Auditing
Profession, we are pleased to submit our Final Report.
[Contents of letter to be included in Final Report]
Respectfully Submitted on behalf of the Committee,
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Arthur Levitt, Jr.
Committee Co-Chair
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Donald T. Nicolaisen
Committee Co-Chair
Enclosure
CHAPTER I: COMMITTEE HISTORY
On November 20, 2006, the Secretary of the Treasury, Henry M.
Paulson, Jr., delivered a speech on the competitiveness of the U.S.
capital markets, highlighting the need for a sustainable auditing
profession.\1\ In March 2007, Secretary Paulson hosted a conference at
Georgetown University with investors, current and former policymakers,
and market participants to discuss issues impacting the competitiveness
of the U.S. capital markets, including the sustainability of the
auditing profession.\2\
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\1\ Treasury Secretary Henry M. Paulson, Jr., Remarks on the
Competitiveness of U.S. Capital Markets at the Economic Club of New
York (Nov. 20, 2006), in Press Release No. HP-174, U.S. Dep't of
Treas. (Nov. 20, 2006) (included as Appendix C).
\2\ Treasury Secretary Henry M. Paulson, Jr., Opening Remarks at
Treasury's Capital Markets Competitiveness Conference at Georgetown
University (Mar. 13, 2007), in Press Release No. HP-306, U.S. Dep't
of Treas. (Mar. 13, 2007) (included as Appendix D).
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On May 17, 2007, Secretary Paulson announced the Department of the
Treasury's (the ``Department's'') intent to establish the Advisory
Committee on the Auditing Profession (the ``Committee'') to consider
and develop recommendations relating to the sustainability of the
auditing profession.\3\ At the same time, Secretary Paulson announced
that he had asked Arthur Levitt, Jr. and Donald T. Nicolaisen to serve
as Co-Chairs of the Committee. The Department published the official
notice of establishment and requested nominations for membership on the
Committee in the Federal Register on June 18, 2007.\4\ Secretary
Paulson announced the Committee's membership on October 2, 2007, with
members drawn from a wide range of professions, backgrounds, and
experiences.\5\ The Department filed the
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Committee's Charter with the Senate Committee on Banking, Housing, and
Urban Affairs, the Senate Committee on Finance, the House Committee on
Financial Services, and the House Committee on Ways and Means on July
3, 2007.\6\
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\3\ Press Release, U.S. Dep't of Treas., Paulson Announces First
Stage of Capital Markets Action Plan (May 17, 2007) (included as
Appendix E); Press Release, U.S. Dep't of Treas., Paulson: Financial
Reporting Vital to U.S. Market Integrity, Strong Economy (May 17,
2008) (included as Appendix F).
\4\ Notice of Intent to Establish; Request for Nominations, 72
FR 33560 (U.S. Dep't of Treas. June 18, 2007) (included as Appendix
A).
\5\ Press Release, U.S. Dep't of Treas., Paulson Announces
Auditing Committee Members to Make Recommendations for a More
Sustainable, Transparent Industry (Oct. 2, 2007) (included as
Appendix G). This press release describes the diverse backgrounds of
the Committee members. For a list of Members, Observers, and Staff,
see Appendix K.
\6\ See Committee Charter (included as Appendix B).
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Committee Activities
The Committee held its initial meeting on October 15, 2007 in
Washington, D.C.\7\ Then Under Secretary for Domestic Finance Robert K.
Steel welcomed the Committee members and provided introductory
remarks.\8\ Also on October 15, 2007, the Committee adopted its by-laws
\9\ and considered a Working Discussion Outline to be published for
public comment.\10\ The Working Discussion Outline identified in
general terms issues for the Committee's consideration. A Working
Bibliography, updated intermittently throughout the course of the
Committee's deliberations, provided the members with articles, reports,
studies, and other written materials relating to the auditing
profession.\11\ All full Committee meetings were open to the public and
conducted in accordance with the requirements of the Federal Advisory
Committee Act.\12\ The meetings of the full Committee were also Web or
audio cast over the Internet.
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\7\ The Record of Proceedings of this and subsequent meetings of
the Committee are available on the Department's Web site at http://www.treas.gov/offices/domestic-finance//acap/press.shtml. See Record
of Proceedings, Meeting of the Committee (Oct. 15, 2007, Dec. 3,
2007, Feb. 4, 2008, Mar. 13, 2008, Apr. 1, 2008, May 5, 2008, June
3, 2008, and [--------]) [hereinafter Record of Proceedings (with
appropriate date)] (on file in the Department's Library, Room 1428),
available at http://www.treas.gov/offices/domestic-finance/acap/press.shtml.
\8\ Under Secretary for Domestic Finance Robert K. Steel,
Welcome and Introductory Remarks Before the Initial Meeting of the
Treasury Department's Advisory Committee on the Auditing Profession
(Oct. 15, 2007), in Press Release No. HP-610, U.S. Dep't of Treas.
(Oct. 15, 2007) (included as Appendix H).
\9\ The Committee By-Laws are included as Appendix I.
\10\ The Working Discussion Outline is included as Appendix L.
\11\ The Working Bibliography is included as Appendix M. The
Working Bibliography was subsequently updated in December 2007,
February 2008, and July 2008.
\12\ 5 U.S.C.--------App. 2 et seq.
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The Committee held its second meeting on December 3, 2007 in
Washington, DC. The agenda for this meeting consisted of hearing oral
statements from witnesses and considering written submissions that
those witnesses had filed with the Committee. The oral statements and
written submissions focused on the issues impacting the sustainability
of the auditing profession, including issues mentioned in the Working
Discussion Outline. Nineteen witnesses testified at this meeting.\13\
The Committee held a subsequent meeting on February 4, 2008 in Los
Angeles, California at the University of Southern California. The
agenda for this meeting consisted of hearing oral statements from
witnesses and considering written submissions that those witnesses had
filed with the Committee. The oral statements and written submissions
focused on the issues impacting the sustainability of the auditing
profession, including issues mentioned in the Working Discussion
Outline. Seventeen witnesses testified at this meeting.\14\ The
Committee held additional meetings on March 13, 2008, April 1, 2008,
May 5, 2008, June 3, 2008, and [--------]. All were face-to-face
meetings held at the Department in Washington, DC, except for February
4, 2008, which was held in Los Angeles, California, and the meetings on
April 1, 2008, and [--------], which were telephonic meetings. No
witnesses testified at these additional meetings, expect for the June
3, 2008 meeting. The agenda for the June 3, 2008 meeting consisted of
hearing oral statements from witnesses and considering written
submissions that those witnesses had filed with the Committee. The oral
statements and written submissions focused on the issues mentioned in
the Draft Report and Draft Report Addendum. Twenty-one witnesses
testified at this meeting.\15\
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\13\ Appendix J contains a list of witnesses who testified
before the Committee.
\14\ Appendix J contains a list of witnesses who testified
before the Committee.
\15\ Appendix J contains a list of witnesses who testified
before the Committee.
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The Committee, through the Department, published [--------]
releases in the Federal Register formally seeking public comment on
issues under consideration. On October 31, 2007, the Committee
published a release seeking comment on the Working Discussion
Outline,\16\ in response to which the Committee received seventeen
comment letters. On May 15, 2008 and on June 12, 2008, the Committee
published releases seeking comment on the Draft Report \17\ and Draft
Report Addendum,\18\ respectively, in response to which the Committee
received [--------] comment letters. In addition, the Department
announced each meeting of the Committee in the Federal Register, and in
each announcement notice included an invitation to submit written
statements to be considered in connection with the meeting.\19\ In
response to these meeting notices, the Committee received [--------]
written submissions. In total, the Committee received [--------]
written submissions in response to Federal Register releases.\20\ All
of the submissions made to the Committee will be archived and available
to the public through the Department's Library.
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\16\ Request for Comments, 72 FR 61709 (U.S. Dep't of Treas.
Oct. 31, 2007).
\17\ Request for Comments, 73 FR 28190 (U.S. Dep't of Treas. May
15, 2008).
\18\ Request for Comments, 73 FR 33487 (U.S. Dep't of Treas.
June 12, 2008).
\19\ Notice of Meeting, 72 FR 55272 (U.S. Dep't of Treas. Sept.
28, 2007); Notice of Meeting, 72 FR 64283 (U.S. Dep't of Treas. Nov.
15, 2007); Notice of Meeting, 73 FR 2981 (U.S. Dep't of Treas. Jan.
16, 2008); Notice of Meeting, 73 FR 10511 (U.S. Dep't of Treas. Feb.
27, 2008); Notice of Meeting, 73 FR 13070 (U.S. Dep't of Treas. Mar.
11, 2008); Notice of Meeting, 73 FR 21016 (U.S. Dep't of Treas. Apr.
17, 2008); Notice of Meeting, FR 28208 (U.S. Dep't of Treas. May 15,
2008); Notice of Meeting, FR 39088 (U.S. Dep't of Treas. July 8,
2008).
\20\ All of the written submissions made to the Committee are
available in the Department's Library, Room 1428 and on the
Department's Committee's Web page at http://www.treas.gov/offices/domestic-finance/acap/press.shtml. To avoid duplicative material in
footnotes, citations to the written submissions made to the
Committee in this Final Report do not reference the Department's
Library, Room 1428 or repeat the file number.
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In addition to work carried out by the full Committee, fact finding
and deliberations also took place within three Subcommittees appointed
by the Co-Chairs. The Subcommittees were organized according to their
principal areas of focus: Human Capital, Firm Structure and Finances,
and Concentration and Competition.\21\ Each of the Subcommittees
prepared recommendations for consideration by the full Committee.
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\21\ For a list of members and their Subcommittee assignments,
see Appendix K.
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III. Background
[Contents of Background to be included in subsequent drafts of this
Report.]
IV. Human Capital
The Committee devoted considerable time and effort surveying the
human capital issues impacting the auditing profession, including
education, licensing, recruitment, retention, and training of
accounting and auditing professionals. The charter of the Committee
charged its members with developing recommendations relating to the
sustainability of the public company
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auditing profession. Likewise, the Committee directs the following
recommendations and related commentary to those practicing public
company auditing. However, the Committee recognizes that several of its
recommendations regarding human capital matters would have impact
beyond the public company auditing profession, impacting the accounting
profession as a whole. The Committee views the accelerating pace of
change in the global corporate environment and capital markets and the
increasing complexity of business transactions and financial reporting
as among the most significant challenges facing the profession as well
as financial statement issuers and investors. These are directly
impacted by human capital issues. To ensure its viability and
resilience and its ability to meet the needs of investors, the public
company auditing profession needs to continue to attract and develop
professionals at all levels who are prepared to perform high quality
audits in this dynamic environment. It is essential that these
professionals continue to be educated and trained to review, judge, and
question all accounting and auditing matters with skepticism and a
critical perspective. The recommendations presented below reflect these
needs.
After receiving testimony from witnesses and from comment letters,
the Committee identified specific areas where the Committee believed it
could develop recommendations to be implemented in the relatively short
term to enhance the sustainability of the auditing profession. These
specific areas include accounting curricula, accounting faculty,
minority representation and retention, and development and maintenance
of human capital data. The Committee has also developed a
recommendation to study the possible future of higher accounting
education's institutional structure.
The Committee recommends that regulators, the auditing profession,
educators, educational institutions, accrediting agencies, and other
bodies, as applicable, effectuate the following:
Recommendation 1. Implement market-driven, dynamic curricula and
content for accounting students that continuously evolve to meet the
needs of the auditing profession and help prepare new entrants to the
profession to perform high quality audits.
The Committee considered the views of all witnesses who provided
input regarding accounting curricula at educational institutions.\22\
The Committee believes that the accounting curricula in higher
education are critical to ensuring that individuals have the necessary
knowledge, mindset, skills, and abilities to perform quality public
company audits. In order to graduate from an educational institution
with an accounting degree, students must have completed a certain
number of hours in accounting and business courses. Accounting
curricula typically include courses in auditing, financial accounting,
cost accounting, and U.S. federal income taxation. Business curricula
typically include courses in ethics, information systems and controls,
finance, economics, management, marketing, oral and written
communication, statistics, and U.S. business law.\23\ Since the 1950s,
several private sector groups have studied and recommended changes to
the accounting curricula,\24\ but notwithstanding these pleas for
reform, curricula are characteristically slow to change.\25\
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\22\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Written
Submission of Joseph V. Carcello, Director of Research, Corporate
Governance, University of Tennessee, Knoxville, 8), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Carcello120307.pdf (noting the market's expectations that
university accounting curricula will expose students to recent
financial reporting developments, such as international financial
reporting standards and eXtensible Business Reporting Language);
Record of Proceedings (Feb. 4, 2008) (Written Submission of Cynthia
Fornelli, Executive Director, Center for Audit Quality, 3),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Fornelli020408.pdf (stating the need to
``[d]edicate funds and people to work with accounting professors to
ensure that the curriculum is keeping pace with developments in
business transactions, international economics and financial
reporting'' and specifying the need to focus on ethical standards
and international accounting and auditing standards); Record of
Proceedings (Dec. 3, 2007) (Written Submission of Dennis Nally,
Chairman and Senior Partner, PricewaterhouseCoopers LLP, 4),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Nally120307.pdf (stating the need to
``[m]odernize and enhance the university accounting curriculum,
which should include consideration of other global curriculum models
to increase knowledge of International Financial Reporting Standards
(IFRS), finance and economics, and process controls'').
\23\ Record of Proceedings (Feb. 4, 2008) (Written Submission of
Phillip M.J. Reckers, Professor of Accountancy, Arizona State
University, 13), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Reckers020408.pdf (commenting that
business students typically take two sophomore-level introductory
accounting classes and accounting majors take six additional
accounting courses in their final two years of schooling).
\24\ See e.g., Franklin Pierson, et al., The Education of
American Businessmen (1959) (noting that the main goal of a business
education should be the development of an individual with broad
training in both the humanities and principles of business); Robert
A. Gordon and James E. Howell, Higher Education for Business (1959)
(suggesting that accounting curriculum abandon its emphasis on
financial accounting and auditing while emphasizing humanities);
Robert H. Roy and James H. MacNeill, Horizons for a Profession
(1967) (emphasizing the importance of a humanities background for
accountants and recommending accounting graduate study); American
Institute of Certified Public Accountants, Committee on Education
and Experience Requirements for CPAs, Report of the Committee on
Education and Experience Requirements for CPAs (Mar. 1969)
(recommending, among other things, a five-year education requirement
to be adopted by states by 1975); American Institute of Certified
Public Accountants, Education Requirements for Entry into the
Accounting Profession: A Statement of AICPA Policies (May 1978)
(preferring a 150 semester-hour education requirement rather than a
five-year education requirement to acquire the common body of
knowledge and sit for the CPA examination); American Accounting
Association, Committee on the Future Structure, Content, and Scope
of Accounting Education, Future Accounting Education: Preparing for
the Expanding Profession, 1 Issues in Accounting Education, No. 1,
168-95 (Spring 1986) (examining accounting education and accounting
practice since 1925 and concluding that, among other things, the
current state of accounting education is inadequate to meet the
dynamic needs of the profession and accounting education must be
reassessed to meet these needs); American Institute of Certified
Public Accountants, Education Requirements for Entry into the
Accounting Profession: A Statement of AICPA Policies, 2nd Ed.,
Revised (Feb. 1988) (reaffirming the 150 semester-hour requirement);
Arthur Andersen & Co., Arthur Young, Coopers & Lybrand, Deloitte
Haskins & Sells, Ernst & Whinney, Peat Marwick Main & Co., Price
Waterhouse, and Touche Ross, Perspectives on Education: Capabilities
for Success in the Accounting Profession (1989), available at http://aaahq.org/aecc/big8/cover.htm (stating that the chief executive
officers of the eight largest public accounting firms believe that
graduates entering public accounting need to have greater
interpersonal, communication, and thinking skills as well as greater
business knowledge and that the accounting curriculum must be a
dynamic experience); and Accounting Education Change Commission,
Objectives of Education for Accountants: Position Statement Number
One, 6 Issues in Accounting Education, No. 2, 307-12 (Fall 1990)
(describing the education objectives for accountants in an
environment where accounting education has not kept pace with the
changing demands upon the accounting profession).
\25\ Record of Proceedings (Dec. 3, 2007) (Written Submission of
Ira Solomon, R.C. Evans Distinguished Professor, and Head,
Department of Accountancy, University of Illinois, 14-15), available
at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Solomon120307.pdf (lamenting the slow pace of change in
accounting curricula and education).
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In this regard, the Committee makes the following recommendations:
(a) Regularly update the accounting certification examinations to
reflect changes in the accounting profession, its relevant professional
and ethical standards, and the skills and knowledge required to serve
increasingly global capital markets.
Accounting and auditing professionals commonly complete the
requirements of professional examinations in order to comply with legal
or professional association requirements. To become licensed at the
state level as a certified public
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accountant, an individual must, among other things, pass the Uniform
CPA Examination. Professional examinations, such as the Uniform CPA
Examination, influence the content of the technical, ethical, and
professional materials comprising the accounting curricula.\26\
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\26\ Gary Sundem, The Accounting Education Change Commission:
Its History and Impact Chapter 6 (1999), available at http://aaahq.org/AECC/history/index.htm (``[T]he CPA examination has
certainly had a major influence on the accounting curriculum and on
other aspects of accounting programs.'').
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The Committee believes that evolution of professional examination
content serves as an important catalyst for curricular changes to
reflect the dynamism and complexity of auditing public companies in
global capital markets. The American Institute of Certified Public
Accountants (AICPA) already regularly analyzes and updates its
examination content, through practice content analysis and in
conjunction with the AICPA Board of Examiners, which comprises members
from the profession and state boards of accountancy. The Committee
recommends that such changes remain a focus to ensure that both the 150
semester hour curriculum \27\ as well as examination content reflect in
a timely manner important ongoing market developments and investor
needs, such as the increasing use of international financial reporting
standards (IFRS),\28\ expanded fair value measurement and reporting,
increasingly complex transactions, new Public Company Accounting
Oversight Board (PCAOB) auditing and professional standards,\29\ risk-
based business judgment, and technological innovations in financial
reporting.
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\27\ See, e.g., Record of Proceedings (Written Submission of
Jean C. Bedard, Timothy B. Harbert Professor of Accounting,
Department of Accountancy, Bentley College, 1), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Bedard060308.pdf (observing that using the CPA Examination as a
catalyst for curricula change will only be effective if the CPA
Examination is written assuming completion of 150 hours); Record of
Proceedings (June 3, 2008) (Questions for the Record of Joseph V.
Carcello, Chair, AAA Task Force to Monitor the Activities of the
Treasury ACAP, Professor and Director of Research--Corporate
Governance Center, University of Tennessee, Jean C. Bedard,
Professor of Accountancy, Bentley College, and Dana R. Hermanson,
Chair of Private Enterprise and Professor of Accounting, Kennesaw
State University, 2 (June 20, 2008)), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/QFRs-6-3-08.pdf
(noting that recent developments suggest a trend away from requiring
150 hours to sit for the CPA examination since eighteen states allow
candidates to sit for the exam after 120 hours); Edward P. Howard,
Senior Counsel, and Julianne D'Angelo Fellmeth, Administrative
Director, Center for Public Interest Law, Comment Letter Regarding
Draft Report and Draft Report Addendum 2-4 (June 13, 2008),
available at http://comments.treas.gov/_files/ACAP_Draft_Report_Comments.pdf (providing background on the issue of requiring 150-
hours for licensure while allowing 120-hours to sit for the CPA
Examination in California); Record of Proceedings (June 3, 2008)
(Oral Remarks of Anne M. Mulcahy, Chairman and Chief Executive
Officer, Xerox Corporation, and Alan L. Beller, Partner, Cleary
Gottlieb Steen & Hamilton LLP, 70-71, 77), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-06-03-08.pdf (noting the tension between updating the curricula in order
to keep current with the changing environment and fitting these
changes into a four-year program).
\28\ Samuel K. Cotterell, CPA, Chair, NASBA, and David A.
Costello, CPA, President and CEO, NASBA, Comment Letter Regarding
Draft Report and Draft Report Addendum 1 (June 29, 2008), available
at http://comments.treas.gov/_files/June2908LetterheadTreasuryAdvisoryCommitteeontheAuditingProfession.pd
f (agreeing that IFRS should be reflected in the CPA examination);
Arnold C. Hanish, Chair, Committee on Corporate Reporting, Financial
Executives International, Comment Letter Regarding Draft Report and
Draft Report Addendum 2 (July 3, 2008), available at http://comments.treas.gov/_files/FEICCRTreasuryACAPCommentLetterFiled73080.pdf (suggesting a greater
emphasis of IFRS in the accounting curriculum).
\29\ See e.g., An Audit of Internal Control Over Financial
Reporting that is Integrated with an Audit of Financial Statements,
Auditing Standard No. 5 (Pub. Company Accounting Oversight Bd.
2007).
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Moreover, the Committee believes that professional \30\ and ethical
standards,\31\ fraud examination and forensic auditing, financial risk
management, and valuation, and subject matter relating to their
application, are an essential component of the accounting and auditing
curricula and accordingly should be reflected in the professional
examinations and throughout business and accounting coursework.\32\
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\30\ See PCAOB Standards and Related Rules, available at http://www.pcaobus.org/Standards/Standards_and_Related_Rules/index.aspx.
\31\ See PCAOB Interim Ethics Standards, available at http://www.pcaobus.org/Standards/Interim_Standards/Ethics/index.aspx.
\32\ See. e.g., Samuel K. Cotterell, CPA, Chair, NASBA, and
David A. Costello, CPA, President and CEO, NASBA, Comment Letter
Regarding Draft Report and Draft Report Addendum 1 (June 29, 2008),
available at http://comments.treas.gov/_files/June2908LetterheadTreasuryAdvisoryCommitteeontheAuditingProfession.pd
f (agreeing that ethics should be included in the accounting
curriculum); Deloitte LLP, Comment Letter Regarding Draft Report and
Draft Report Addendum 9 (June 27, 2008), available at http://comments.treas.gov/_files/DeloitteLLPCommentLetter.pdf
(recommending that the Committee state that the following courses
should be included in the curricula: ethics, fraud examination and
forensic auditing, problem solving, finance, negotiation and
communication skills, financial risk management, global business,
taxation, and valuation); Record of Proceedings (Written Submission
of Anne M. Lang, Chief Human Resources Officer, Grant Thornton LLP,
3), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Lang060308.pdf (asking the Committee to
specifically cite the need for curricula that teach specialized
knowledge, such as risk management, computational finance, valuation
theory, and sophisticated modeling techniques).
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Finally, the Committee recommends that the market developments
outlined in this section be reflected in professional examination
content as soon as practicable, but not later than 2011.\33\ In
particular, the CPA examination should test a candidate's knowledge
consistent with practice needs and the highest contemporary level of
education required based on those practice needs. In addition, the
Committee recommends that new evolving examination content be widely
and promptly communicated to college and university faculty and
administrators so that corresponding curricular changes in educational
institutions can continually occur on a timely basis.
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\33\ See, e.g., Samuel K. Cotterell, CPA, Chair, NASBA, and
David A. Costello, CPA, President and CEO, NASBA, Comment Letter
Regarding Draft Report and Draft Report Addendum 1 (June 29, 2008),
available at http://comments.treas.gov/_files/June2908LetterheadTreasuryAdvisoryCommitteeontheAuditingProfession.pd
f (agreeing with the Recommendation to keep the CPA examination
current).
---------------------------------------------------------------------------
(b) Reflect real world changes in the business environment more
rapidly in teaching materials.
Students are expected to use a variety of sources, such as
textbooks and online materials, to learn. Such materials are an
important element of higher education. The Committee learned that these
commercial materials are generally conservatively managed and follow
rather than lead recent market developments.\34\ Because developing
accounting materials involves a significant investment of time and
resources, commercial content providers carefully consider the
potential risks and rewards before publishing new materials, even where
a more prompt response to new developments might be beneficial to
students.
---------------------------------------------------------------------------
\34\ Subcommittee on Human Capital Record of Proceedings (Jan.
16, 2008) (Oral Remarks of Bruce K. Behn, President, Federation of
Schools of Accountancy, and Ergen Professor of Business, Department
of Accounting and Information Management, University of Tennessee,
Knoxville).
---------------------------------------------------------------------------
The Committee believes that accounting educational materials can
contribute to inducing curricular changes that reflect the dynamism and
complexity of the global capital markets and that commercial content
providers should recognize the importance of capturing recent
developments in their published materials. Specifically, the Committee
recommends that organizations, such as the AICPA and the American
Accounting Association (AAA), meet with commercial content providers
and encourage them to update their materials promptly to reflect recent
developments such as the increasing use
[[Page 44320]]
of IFRS, new PCAOB auditing and professional standards, risk-based
business judgment, and expanded fair value reporting, as well as
technological developments in financial reporting and auditing such as
eXtensible Business Reporting Language (XBRL).\35\
---------------------------------------------------------------------------
\35\ See, e.g., Aram Kostoglian, Eastern Region Attest Practice
Leader, and Ernest Baugh, National Director of Professional
Standards, Mayer Hoffman McCann P.C., Comment Letter Regarding Draft
Report and Draft Report Addendum 1 (June 13, 2008), available at
http://comments.treas.gov/_files/MayerHoffmanMcCannCommentLetter.pdf (noting that textbooks lack a
thorough discussion of current market developments);
PricewaterhouseCoopers LLP, Comment Letter Regarding Draft Report
and Draft Report Addendum 4 (June 30, 2008), available at http://comments.treas.gov/_files/PwCCommentLtrTreasCmtDraftandAddendum63008.pdf (noting support for
updating teaching materials promptly to reflect recent developments
such as the increasing use of IFRS).
---------------------------------------------------------------------------
Further, in order to ensure access to such materials and
recognizing the benefits of technological innovations,\36\ the
Committee recommends that authoritative bodies and agencies should be
encouraged to provide low-cost, affordable access to digitized
searchable authoritative literature and materials, such as Financial
Accounting Standards Board (FASB) codification and eIFRS, to students
and faculty members. Moreover, since the content of professional
examinations, such as the Uniform CPA Examination, is based upon
research using digitized materials, students need to have access to,
among other things, searchable accounting standards.\37\ The Committee
believes that low-cost affordable access to such primary materials
would thus enhance student learning and performance and technical
research.
---------------------------------------------------------------------------
\36\ See Stephanie Woodruff, Chief Revenue Officer, AverQ, Inc,
Comment Letter Regarding Draft Report and Draft Report Addendum
(June 2, 2008), available at http://comments.treas.gov/index.cfm?FuseAction=Home.ViewPopup&Topic_id=9&FellowType_id=1&Reply_id=95&SuppressLayouts=True (suggesting the use or study
of ``technology'' to address auditing profession challenges).
\37\ See Record of Proceedings (Feb. 4, 2008) (Written
Submission of Phillip M.J. Reckers, Professor of Accountancy,
Arizona State University, 14), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Reckers020408.pdf
(affirming the need for student access to digitized searchable
accounting and auditing materials).
---------------------------------------------------------------------------
(c) Require that schools build into accounting curricula current
market developments.
A common theme of our first set of recommendations is that
accounting curricula should reflect recent developments, including
globalization and evolving market factors. As a further catalyst to
curricula development and evolution by educational institutions, the
Committee recommends ongoing attention to responsiveness to recent
developments by the bodies that accredit educational institutions.
Accrediting agencies review institutions of higher education and their
programs and establish that overall resources and strategies are
conformed to the mission of the institutions. For example, the
Association to Advance Collegiate Schools of Business (AACSB) and the
Association of Collegiate Business Schools and Programs (ACBSP)
accredit business administration and accounting programs. Since 1919,
the AACSB has accredited business administration programs and, since
1980, accounting programs offering undergraduate and graduate degrees.
The AACSB has accredited over 450 U.S. business programs and over 150
U.S. accounting programs. Since 1988, the ACBSP has accredited business
programs offering associate, baccalaureate, and graduate degrees. As of
February 2008, over 400 educational institutions have achieved ACBSP
accreditation. The accreditation standards at both accrediting agencies
relate to, among other things, curricula, program and faculty
resources, and faculty development.
The Committee believes that the accreditation process and
appropriate accreditation standards can contribute to curricular
changes. In particular, accreditation standards that embody curricular
requirements to reflect the dynamism and complexity of the global
capital markets and that evolve to keep pace in the future can be
helpful in maintaining and advancing the quality of accounting
curricula. The AACSB has emphasized in its accreditation standards that
accounting curricula should reflect recent market developments. For
example, educational institutions must include in their curricula
international accounting issues in order to receive AACSB
accreditation. The Committee supports the accrediting agencies' efforts
to continually develop standards specifically emphasizing the need to
update accounting programs.
Recommendation 2. Improve the representation and retention of
minorities in the auditing profession so as to enrich the pool of human
capital in the profession.
The auditing profession presents challenging and rewarding
opportunities for those who pursue a career in auditing and the
profession actively recruits talent from all backgrounds.\38\ Yet, the
Committee was concerned by what it heard from individuals with various
backgrounds about minority representation and retention in the auditing
profession.\39\ In
[[Page 44321]]
2004, minorities accounted for 22% of all bachelor's and masters'
degrees awarded in accounting, while in 2007, minorities accounted for
21%.\40\ In 2004, African Americans represented 1% of all CPAs,
Hispanic/Latino, 3%, and Asian/Pacific Islander, 4%.\41\ See Figure 1.
These percentages changed very little in 2007 when African Americans
represented 1% of all CPAs, Hispanic/Latino, 2%, and Asian/Pacific
Islander, 4%.\42\ See Figure 2.
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\38\ The Committee discussed the issue of representation and
retention of females in the profession and the Committee found that
the profession is undertaking significant efforts to hire and retain
females and notes that these issues are being much better managed
today. See, e.g., Record of Proceedings (June 3, 2008) (Oral Remarks
of Amy Woods Brinkley, Global Risk Executive, Bank of America
Corporation, 57), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-06-03-08.pdf (noting that the
Committee spent considerable time discussing this issue of females
in the profession); Record of Proceedings (June 3, 2008) (Written
Submission of Kayla J. Gillan, Chief Administrative Officer,
RiskMetrics Group, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Gillan060308.pdf (urging
the Committee to examine the issue of females in the profession);
Record of Proceedings (June 3, 2008) (Oral Remarks of Anne M. Lang,
Chief Human Resources Officer, Grant Thornton LLP, 100-101),
available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-06-03-08.pdf (stating that ``* * * certainly
recruiting women into the profession is something that [Grant
Thornton LLP has] done extremely well for the last several years * *
* [the] advancement of * * * women is something that [Grant Thornton
LLP] still need[s] to pay attention to''). The Committee notes the
following statistics: In 2007, at the partner level, females
represented 23% of partners on average, while in 2004 they were 19%
and in 1994 they were just 12% of all partners. See American
Institute of Certified Public Accountants, A Decade of Changes in
The Accounting Profession: Workforce Trends and Human Capital
Practices 5 (Feb. 2006) and Dennis R. Reigle, Heather L. Bunning And
Danielle Grant, 2008 Trends In The Supply of Accounting Graduates
And The Demand For Public Accounting Recruits 60 (2008), available
at http://ceae.aicpa.org/NR/rdonlyres/C1E23302-17D3-4ED5-AE81-B274D9CD7812/0/AICPA_Trends_Reports_2008.pdf. According to Public
Accounting Report surveys, the percentage of female professionals at
the largest firms was 47.3% in 2007 and 44.2% in 2004. See Women at
Big Four Gain Ground in Partnership Percentage, Public Accounting
Report 6 (Oct. 31, 2004) and Women Post Gains in Partnership
Percentage, Public Accounting Report 11 (Jan. 31, 2008). From 2005
to 2007, women represented about half of the new hires at the six
largest firms. See Center For Audit Quality, Report Of The Major
Public Company Audit Firms To The Department Of The Treasury
Advisory Committee On The Auditing Profession 58 (Jan. 23, 2008).
The Committee also considered the effects of workload compression on
retention in the profession. Some Committee members believe that
audit firms and their clients could benefit from spreading tax
preparation work throughout the year. See, e.g., Record of
Proceedings (Oct. 15, 2007) (Oral Remarks of William D. Travis,
Director and Former Managing Partner, McGladrey & Pullen LLP, 71),
available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-10-15-07.pdf (noting that ``[a] significant
challenge for retention of personnel in mid-size and small audit
firms is the extreme seasonality * * * during the winter season.
This reality places enormous pressure on audit quality and balanced
lives of * * * professionals''); Record of Proceedings (Mar. 13,
2008) (Oral Remarks of Barry C. Melancon, President and Chief
Executive Officer, American Institute of Certified Public
Accountants, 118), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-03-13-08.pdf (noting that the
Human Capital Subcommittee discussed workload compression issues).
\39\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Written
Submission of Ira Solomon, R.C. Evans Distinguished Professor, and
Head, Department of Accountancy, University of Illinois, 13),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Solomon120307.pdf; Record of Proceedings (Dec.
3, 2007) (Questions for the Record of George S. Willie, Managing
Partner, Bert Smith & Co., 2 (Jan. 30, 2008)), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Willie120307.pdf; Record of Proceedings (Dec. 3, 2007) (Written
Submission of Julie K. Wood, Chief People Officer, Crowe Chizek and
Company LLC, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Wood120307.pdf.
\40\ Dennis R. Reigle, Heather L. Bunning And Danielle Grant,
2008 Trends In The Supply Of Accounting Graduates And The Demand For
Public Accounting Recruits 30 (2008), available at http://ceae.aicpa.org/NR/rdonlyres/C1E23302-17D3-4ED5-AE81-B274D9CD7812/0/AICPA_Trends_Reports_2008.pdf.
\41\ Beatrice Sanders, And Leticia B. Romeo, The Supply Of
Accounting Graduates And The Demand For Public Accounting Recruits-
2005: For Academic Year 2003-2004 35 (2005), available at http://ceae.aicpa.org/NR/rdonlyres/11715FC6-F0A7-4AD6-8D28-6285CBE77315/0/Supply_DemandReport_2005.pdf.
\42\ Dennis R. Reigle, Heather L. Bunning And Danielle Grant,
2008 Trends In The Supply Of Accounting Graduates And The Demand For
Public Accounting Recruits 61 (2008), available at http://ceae.aicpa.org/NR/rdonlyres/C1E23302-17D3-4ED5-AE81-B274D9CD7812/0/AICPA_Trends_Reports_2008.pdf.
[GRAPHIC] [TIFF OMITTED] TN30JY08.038
[GRAPHIC] [TIFF OMITTED] TN30JY08.039
African Americans accounted for 5.4% of new hires in 2007 at the
largest
[[Page 44322]]
six accounting firms, Hispanics, 4.6%, and Asians, 21.3%.\43\ See
Figure 3.
---------------------------------------------------------------------------
\43\ Center For Audit Quality, Report Of The Major Public
Company Audit Firms To The Department Of The Treasury Advisory
Committee On The Auditing Profession 59 (Jan. 23, 2008), available
at http://www.thecaq.org/publicpolicy/data/TRData2008-01-23-FullReport.pdf.
[GRAPHIC] [TIFF OMITTED] TN30JY08.044
In 2007, 1.0% of the partners in the six largest accounting firms
were African American, 1.6% were Hispanic/Latino, 3.4% were Asian, and
less than 1.0% were Native Hawaiian/Pacific Islander or American
Indian/Alaska Native, aggregating less than 7% of the total
partners.\44\ See Figure 4.
---------------------------------------------------------------------------
\44\ Center For Audit Quality, Report Of The Major Public
Company Audit Firms To The Department Of The Treasury Advisory
Committee On The Auditing Profession 60 (Jan. 23, 2008), available
at http://www.thecaq.org/publicpolicy/data/TRData2008-01-23-FullReport.pdf.
[GRAPHIC] [TIFF OMITTED] TN30JY08.040
The Committee recognizes that important groups within the minority
population are significantly under-represented in the accounting and
auditing profession, especially at senior levels, and this under-
representation of minorities in the profession is unacceptable from
both a societal and business perspective. As the demographics of the
global economy continue to expand ethnic diversity, it is imperative
that the profession also reflect these changes. The auditing
profession's historic role in performing audits in an increasingly
diverse global setting and in establishing investor trust cannot be
maintained unless the profession itself is viewed as open and
[[Page 44323]]
representative. To ensure the continued health and vibrancy of the
profession, it is imperative that all participants in the financial,
investor, educator, and auditor community adopt and implement policies,
programs, practices, and curricula designed to attract and retain
minorities. In order for minority participation in the accounting and
auditing profession to grow and sustain itself, minority recruitment
and retention needs to be a multi-faceted, multi-year effort,
implemented and championed by community leaders, families, and most
importantly business and academic leaders who educate, recruit, employ,
and rely on accountants and auditors.
In this regard, the Committee recognizes the importance of setting
goals and measuring progress against these goals and thus makes the
following recommendations:
(a) Recruit minorities into the auditing profession from other
disciplines and careers.
The Committee heard from witnesses that the auditing profession has
``fallen short'' on its minority recruitment goals.\45\ Accordingly,
the Committee recommends that auditing firms actively market to and
recruit from minority non-accounting graduate populations, both at the
entry and experienced hire level, utilizing cooperative efforts by
academics and firm-based training programs to assist in this
process.\46\ Generally, auditing firms hire individuals for the audit
practice who are qualified to sit for the Uniform CPA Examination.\47\
---------------------------------------------------------------------------
\45\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Written
Submission of Julie K. Wood, Chief People Officer, Crowe Chizek and
Company LLC, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Wood120307.pdf.
\46\ See Ernst & Young LLP, Comment Letter Regarding Draft
Report and Draft Report Addendum 22 (June 27, 2008), available at
http://comments.treas.gov/_files/EYACAPCommentLetterFINAL2.pdf
(supporting this Recommendation).
\47\ See Record of Proceedings (Dec. 3, 2007) (Questions for the
Record of James S. Turley, Chairman and Chief Executive Officer,
Ernst & Young LLP, 4 (Feb. 1, 2008)), available at http://www.treas.gov/offices/domestic-finance/acap/QFRs-12-3-07.pdf (noting
that since 1997, Ernst & Young LLP has typically hired individuals
qualified to sit for the Uniform CPA Examination).
---------------------------------------------------------------------------
Further, the Committee recommends that auditing firms expand their
recruitment initiatives at historically black colleges and universities
(HBCUs), and explore the use of proprietary schools as another way to
recruit minorities into the profession.\48\ Currently over 100
educational institutions established before 1964 to serve the African
American community are designated as HBCUs and over fifty of these
HBCUs maintain accounting programs. Approximately 290,000 students are
enrolled in HBCUs \49\ and HBCUs enroll 14% of all African American
students in higher education.\50\ Twenty-seven HBCUs have one or more
of the six largest accounting firms recruiting professional staff on
their campus.\51\ Both the number of these schools visited by the
largest firms and the number of firms recruiting at these schools
should increase. Proprietary schools are for-profit businesses that
teach vocational or occupational skills and there are over 2,000
proprietary schools in the United States.\52\ In 2005, these schools
enrolled over 1 million students: African Americans accounted for 23%
of these students, Hispanics, 13%, and Asian/Pacific Islander, 4%.\53\
---------------------------------------------------------------------------
\48\ Record of Proceedings (June 3, 2008) (Written Submission of
Frank K. Ross, Director, Center for Accounting Education, Howard
University School of Business, 3), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Ross060308.pdf (agreeing that this Recommendation will help increase
minority recruitment).
\49\ Stephen Provasnik and Linda L. Shafer, Historically Black
Colleges and Universities, 1976 to 2001 2 (NCES 2004-062), available
at http://nces.ed.gov/pubs2004/2004062.pdf.
\50\ White House Initiative On Historically Black Colleges And
Universities, available at http://www.ed.gov/about/inits/list/whhbcu/edlite-index.html.
\51\ Center For Audit Quality, Supplement To Report Of The Major
Public Company Audit Firms To The Department Of The Treasury
Advisory Committee On The Auditing Profession 1 (Mar. 5, 2008),
available at http://www.thecaq.org/publicpolicy/data/TRData2008-03-05-Supplement1.pdf.
\52\ Thomas D. Snyder, Sally A. Dillow, And Charlene M. Hoffman,
Digest Of Education Statistics 2007 Table 5 (NCES 2008-022),
available at http://nces.ed.gov/pubs2008/2008022.pdf.
\53\ Thomas D. Snyder, Sally A. Dillow, And Charlene M. Hoffman,
Digest Of Education Statistics 2007 Table 220 (NCES 2008-022),
available at http://nces.ed.gov/pubs2008/2008022.pdf.
---------------------------------------------------------------------------
(b) Institute initiatives to increase the retention of minorities
in the profession.
The Committee considered testimony on the retention of minorities
in the profession.\54\ As discussed above, minorities are significantly
under-represented in leadership and partnership positions within the
profession. The Committee recognizes the lack of minority mentors and
role models \55\ in the profession and the profession's awareness of
this situation.\56\ In a 2006 National Association of Black Accountants
(NABA) survey, almost 60% of African American respondents stated that
their mentors come from outside of the profession and almost 55% of
respondents stated that they had been with their current employer for
three years or less.\57\ The Committee considered testimony that
African Americans leave the profession for other careers or do not wish
to become managers or partners because they see that there are few
African Americans in leadership positions within the firms.\58\ The
Committee also heard testimony that the retention rate for Hispanics
``is low.'' \59\ In 2004, Hispanics represented 3% of the professional
staff at all CPA
[[Page 44324]]
firms \60\ and this percentage did not change in 2007.\61\
---------------------------------------------------------------------------
\54\ Record of Proceedings (Dec. 3, 2007) (Written Submission of
George S. Willie, Managing Partner, Bert Smith & Co., 3), available
at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Willie120307.pdf (noting that ``firms must do more to
retain and promote minority professionals''); Record of Proceedings
(June 3, 2008) (Written Submission of Frank K. Ross, Director,
Center for Accounting Education, Howard University School of
Business, 8), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Ross060308.pdf (noting that
``auditing firms need to establish aggressive retention programs
that focus on retention'').
\55\ Record of Proceedings (Feb. 4, 2008) (Written Submission of
Gilbert R. Vasquez, Managing Partner, Vasquez & Company LLP, 4),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Vasquez02042008.pdf (highlighting the lack of
Hispanic role models and mentors in the accounting profession).
\56\ See Record of Proceedings (July 12, 2006) (Written
Testimony of Manuel Fernandez, National Managing Partner--Campus
Recruiting, KPMG LLP, to the Subcommittee on Oversight and
Investigations of the House Financial Services Committee, 5),
available at http://financialservices.house.gov/media/pdf/071206mf.pdf (identifying the lack of minority faculty mentors and
role models and noting ``[w]hen students of color do not see
professors of their own ethnic background on the accounting faculty,
they are less apt to consider the option of a career in
accountancy''); Record of Proceedings (Dec. 3, 2007) (Questions for
the Record of George S. Willie, Managing Partner, Bert Smith & Co.,
1 (Jan. 30, 2008)), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Willie120307.pdf
(recommending the establishment of a mentor program for minority
accounting students).
\57\ The Center for Accounting Education, Howard University
School of Business, NABA Membership Survey, Analysis of Work
Experience of NABA Members Table 23 and 5 (Sept. 15, 2006),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/NABAMembershipSurvey.pdf.
\58\ Record of Proceedings (June 3, 2008) (Written Submission of
Frank K. Ross, Director, Center for Accounting Education, Howard
University School of Business, 5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Ross060308.pdf.
\59\ Record of Proceedings (Feb. 4, 2008) (Written Submission of
Gilbert R. Vasquez, Managing Partner, Vasquez & Company LLP, 4),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Vasquez02042008.pdf.
\60\ Beatrice Sanders, and Leticia B. Romeo, The Supply of
Accounting Graduates and the Demand for Public Accounting Recruits--
2005: For Academic Year 2003-2004 32 (2005), available at http://ceae.aicpa.org/NR/rdonlyres/11715FC6-F0A7-4AD6-8D28-6285CBE77315/0/Supply_DemandReport_2005.pdf.
\61\ Dennis R. Reigle, Heather L. Bunning and Danielle Grant,
2008 Trends in the Supply of Accounting Graduates and the Demand for
Public Accounting Recruits 59 (2008), available at http://ceae.aicpa.org/NR/rdonlyres/C1E23302-17D3-4ED5-AE81-B274D9CD7812/0/AICPA_Trends_Reports_2008.pdf.
---------------------------------------------------------------------------
The Committee believes that firms must continue to find ways to
retain minorities in the profession in order to ensure the profession's
long-term viability. The Committee believes the need to instill
confidence is critical to an individual's career as is the need for
mentors, especially at the start of an individual's career.\62\ The
Committee also recognizes that auditing firms must continue to give
challenging assignments so that individuals have the motivation to stay
in the profession.\63\ Thus, the Committee recommends that public
company auditing firms intensify their efforts to create and maintain
retention programs, including mentoring programs, for their employees
as a means to provide these individuals with guidance, career coaching,
and networking. Further, the Committee recommends that the profession
compile and issue best practices related to minority recruitment and
retention.\64\
---------------------------------------------------------------------------
\62\ Record of Proceedings (June 3, 2008) (Written Submission of
Frank K. Ross, Director, Center for Accounting Education, Howard
University School of Business, 8), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Ross060308.pdf (noting that ``auditing firms need to establish
aggressive retention programs that focus on confidence * * * the
single greatest source of confidence is a good mentor. Unless [an
individual has] been blessed with a truly strong mentor, it may be
hard to understand how beneficial it is'').
\63\ Record of Proceedings (June 3, 2008) (Oral Remarks of Anne
M. Lang, Chief Human Resources Officer, Grant Thornton LLP, 83),
available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-06-03-08.pdf (stating that `` * * * what [Grant
Thornton] find[s], at least in the research that we've done with
people coming into the organization and staying in public
accounting, is that meaningful and challenging work and the
opportunity to advance, based on an individual's career aspirations,
is really what keeps our people longer'').
\64\ See PricewaterhouseCoopers LLP, Comment Letter Regarding
the Draft Report and Draft Report Addendum 5 (June 30, 2008),
available at http://comments.treas.gov/_files/PwCCommentLtrTreasCmtDraftandAddendum63008.pdf.
---------------------------------------------------------------------------
(c) Emphasize the role of community colleges in the recruitment of
minorities into the auditing profession.
Community colleges are a vital part of the postsecondary education
system. They provide open access to post-secondary education, preparing
students for transfer to four-year institutions, providing workforce
development and skills training, and offering non-credit programs.
Moreover, as the cost of higher education continues its upward climb,
more and more high-achieving students are beginning their post-
secondary study through the community college system.
As of January 2008, approximately 11.5 million students were
enrolled in the 1,200 community colleges in the United States: African
Americans accounted for 13% of these students, Hispanics, 15%, and
Asian/Pacific Islander, 6%.\65\
---------------------------------------------------------------------------
\65\ American Association of Community Colleges, available at
http://www2.aacc.nche.edu/research/index.htm.
---------------------------------------------------------------------------
In August 1992, the Accounting Education Change Commission (AECC),
created in the late 1980s by the academic community to examine
potential changes to accounting education, recognized the importance of
two-year colleges in accounting education. The AECC noted that over
half of all students taking their first course in accounting do so at
two-year colleges and that approximately one-fourth of the students
entering the accounting profession take their initial accounting
coursework at two-year colleges. The AECC called for ``greater
recognition within the academic and professional communities of the
efforts and importance of two-year accounting programs.'' \66\
---------------------------------------------------------------------------
\66\ Accounting Education Change Commission, Issues Statement
Number 3: The Importance of Two-Year Colleges for Accounting
Education (Aug. 1992), available at http://aaahq.org/aecc/PositionsandIssues/issues3.htm.
---------------------------------------------------------------------------
The Committee also heard from witnesses emphasizing the need to
expand minority recruitment initiatives at community colleges.\67\
---------------------------------------------------------------------------
\67\ Record of Proceedings (Feb. 4, 2008) (Written Submission of
Gilbert R. Vasquez, Managing Partner, Vasquez & Company LLP, 4),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Vasquez02042008.pdf (noting that auditing firms
overlook community colleges where minorities, and specifically
Latinos, represent a large student population); Record of
Proceedings (Dec. 3, 2007) (Questions for the Record of George S.
Willie, Managing Partner, Bert Smith & Co., 2 (Jan. 30, 2008)),
available at http://www.treas.gov/offices/domestic-finance/acap/QFRs-12-3-07.pdf (recommending that the auditing profession increase
it visibility at community colleges).
---------------------------------------------------------------------------
The Committee believes that more attention to community colleges
may provide, in addition to an increase in the overall supply of
students, another avenue for minorities to become familiar with and
attracted to the auditing profession. Currently none of the largest
auditing firms recruits at community colleges because ``individuals who
only have associate degrees typically will not have sufficient
qualifications to satisfy state licensing requirements.'' \68\ The
Committee recommends that accreditation of two-year college accounting
programs at community colleges be explored and implemented when viable,
so that these programs can be relied upon as one of the requisite steps
toward fulfilling undergraduate educational requirements.\69\ Further,
the Committee recommends that auditing firms and educational
institutions at all levels support and cooperate in building strong
fundamental academic accounting programs at community colleges,
including providing internships or financial support for students who
begin their studies in two-year programs and may be seeking careers in
the auditing profession. The Committee also recommends that auditing
firms and four-year colleges and universities and their faculty focus
on outreach to community college students in order to support students'
transition from community colleges to four-year educational
institutions.\70\
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\68\ Center for Audit Quality, Supplement to Report of the Major
Public Company Audit Firms to the Department of the Treasury
Advisory Committee on the Auditing Profession 1 (Mar. 5, 2008),
available at http://www.thecaq.org/publicpolicy/data/TRData2008-03-05-Supplement1.pdf.
\69\ See Record of Proceedings (June 3, 2008) (Written
Submission of Anne M. Lang, Chief Human Resources Officer, Grant
Thornton LLP, 4), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Lang060308.pdf
(supporting the accreditation of community colleges).
\70\ See, e.g., Cynthia M. Fornelli, Executive Director, Center
for Audit Quality, Comment Letter Regarding Draft Report and Draft
Report Addendum 8 (June 26, 2008), available at http://comments.treas.gov/_files/CAQCommentletter62708FINAL.pdf (stating
that outreach programs to community colleges could be effective);
PricewaterhouseCoopers LLP, Comment Letter Regarding Draft Report
and Draft Report Addendum 5 (June 30, 2008), available at http://comments.treas.gov/_files/PwCCommentLtrTreasCmtDraftandAddendum63008.pdf (suggesting that the
Committee recommend steps to transition students from community
colleges to four-year colleges and universities).
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(d) Emphasize the utility and effectiveness of cross-sabbaticals
and internships with faculty and students at Historically Black
Colleges and Universities.
As discussed above, African Americans are significantly under-
represented in the auditing profession.
The Committee recommends encouraging a concerted effort to increase
the focus upon HBCUs in order to raise the number of African Americans
in the auditing profession and urging the HBCUs, auditing firms,
corporations, federal and state
[[Page 44325]]
governments, and other entities to emphasize the use of cross-
sabbaticals.\71\ Cross-sabbaticals are interactive relationships where
faculty and seasoned professionals are regularly represented in the
practice and academic environments through exchanges. Evidence suggests
that such exchanges can be beneficial, and continued development of
such exchanges is expected to provide substantial benefits for all
parties.\72\ Cross-sabbaticals present an opportunity for ``reflective
thinking'' for seasoned professionals.\73\
---------------------------------------------------------------------------
\71\ See Cynthia M. Fornelli, Executive Director, Center for
Audit Quality, Comment Letter Regarding Draft Report and Draft
Report Addendum 8 (June 26, 2008), available at http://comments.treas.gov/_files/CAQCommentletter62708FINAL.pdf (agreeing
with this Recommendation).
\72\ See Record of Proceedings (Feb. 4, 2008) (Written
Submission of Cynthia Fornelli, Executive Director, Center for Audit
Quality, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Fornelli020408.pdf (recommending
encouraging sabbaticals, internships, and fellowship opportunities,
structured to give faculty opportunities to conduct research for
promotion and tenure); Record of Proceedings (Feb. 4, 2008) (Oral
Remarks of Phillip M.J. Reckers, Professor of Accountancy, Arizona
State University, 68), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-2-4-08.pdf (stating that
sabbaticals deliver professors ``a wealth of knowledge they could
bring back in the classroom'').
\73\ See Record of Proceedings (Mar. 13, 2008) (Oral Remarks of
H. Rodgin Cohen, Chairman, Sullivan & Cromwell LLP, 69), available
at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-03-13-08.pdf (noting that spending time in the classroom
should ``give the [practicing accountant] the time to do the
reflective thinking''); Record of Proceedings (Mar. 13, 2008) (Oral
Remarks of Zoe-Vonna Palmrose, Deputy Chief Accountant, SEC),
available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-03-13-08.pdf (commenting that sabbaticals provide
the ``opportunity for reflective thinking'').
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In addition, the Committee recommends that the over fifty HBCUs
with accounting programs require one member of their accounting faculty
annually to participate in a cross-sabbatical with a private or public
sector entity. The Committee also recommends that the private and
public sector entities provide these opportunities, as well as focus on
other arrangements to build relationships at these educational
institutions.
The Committee received testimony regarding the lack of minority
mentors and role models \74\ and notes that the profession has
recognized this situation.\75\ Thus, the Committee also recommends that
public company auditing firms intensify their efforts to create
internships and mentoring programs for students in accounting and other
complementary disciplines, including those from HBCUs and community
colleges, as a means to increase the awareness of the accounting
profession and its attractiveness among minority students.
---------------------------------------------------------------------------
\74\ See, e.g., Record of Proceedings (June 3, 2008) (Written
Submission of Frank K. Ross, Director, Center for Accounting
Education, Howard University School of Business, 9), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Ross060308.pdf (highlighting that a 2006 NABA survey
revealed that almost 60% of African American respondents stated that
their mentors come from outside of the profession); Record of
Proceedings (Feb. 4, 2008) (Written Submission of Gilbert R.
Vasquez, Managing Partner, Vasquez & Company LLP, 4), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Vasquez02042008.pdf (highlighting the lack of Hispanic role
models and mentors in the accounting profession).
\75\ See Record of Proceedings (July 12, 2006) (Written
Testimony of Manuel Fernandez, National Managing Partner--Campus
Recruiting, KPMG LLP, to the Subcommittee on Oversight and
Investigations of the House Financial Services Committee, 5),
available at http://financialservices.house.gov/media/pdf/071206mf.pdf (identifying the lack of minority faculty mentors and
role models and noting ``[w]hen students of color do not see
professors of their own ethnic background on the accounting faculty,
they are less apt to consider the option of a career in
accountancy''); Record of Proceedings (Dec. 3, 2007) (Questions for
the Record of George S. Willie, Managing Partner, Bert Smith & Co.,
1 (Jan. 30, 2008)), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Willie120307.pdf
(recommending the establishment of a mentor program for minority
accounting students).
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(e) Increase the numbers of minority accounting doctorates through
focused efforts.
Some dedicated programs have succeeded in attracting minorities to
enter and complete accounting doctoral studies.\76\ In particular, the
PhD Project, an effort of the KPMG Foundation, has worked to increase
the diversity of business school faculty.\77\ The PhD Project focuses
on attracting minorities to business doctoral programs, and provides a
network of peer support. Since the PhD Project's establishment in 1994,
the number of minority professors at U.S. business schools has
increased from 294 to 889.\78\ Ninety percent who enter the PhD Project
earn their doctorates, and 99% of those who complete their doctorates
go on to teach.\79\ The PhD Project has received over $17.5 million
\80\ in funding since 1994 from corporations, foundations,
universities, and other interested parties.\81\
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\76\ For a list of educational support programs that auditing
firms are sponsoring, see Record of Proceedings (Feb. 4, 2008)
(Written Submission of Barry Salzberg, Chief Executive Officer,
Deloitte LLP, Appendix A), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Salzberg020408.pdf.
\77\ For further information on the PhD Project, see http://www.phdproject.org/mission.html.
\78\ Record of Proceedings (Feb. 4, 2008) (Written Submission of
Barry Salzberg, Chief Executive Officer, Deloitte LLP, Appendix A),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Salzberg020408.pdf.
\79\ See Jane Porter, Going to the Head of the Class: How the
PhD Project is Helping to Boost the Number of Minority Professors in
B-schools, Business Week Online (Dec. 27, 2006), available at http://www.businessweek.com/bschools/content/dec2006/bs20061227_926455.htm.
\80\ See Record of Proceedings (July 12, 2006) (Written
Testimony of Manuel Fernandez, National Managing Partner--Campus
Recruiting, KPMG LLP, to the Subcommittee on Oversight and
Investigations of the House Financial Services Committee, 5),
available at http://financialservices.house.gov/media/pdf/071206mf.pdf.
\81\ For further information on the PhD Project, see http://www.phdproject.org/corp_sponsors.html.
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The Committee believes that programs such as these can successfully
recruit minorities to accounting doctoral studies. The Committee
recommends that auditing firms, corporations, and other interested
parties advertise existing and successful efforts to increase the
number of minority doctorates by developing further dedicated
programs.\82\ Additionally, the Committee recommends that auditing
firms, corporations, and other interested parties maintain and increase
the funding of these programs.
---------------------------------------------------------------------------
\82\ See, e.g., Cynthia M. Fornelli, Executive Director, Center
for Audit Quality, Comment Letter Regarding Draft Report and Draft
Report Addendum 9 (June 26, 2008), available at http://comments.treas.gov/_files/CAQCommentletter62708FINAL.pdf (stating
that this Recommendation could lead to an increase in the number of
minority accounting doctorates); Record of Proceedings (June 3,
2008) (Written Submission of Frank K. Ross, Director, Center for
Accounting Education, Howard University School of Business, 11),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Ross060308.pdf (noting the need to expand
support for the PhD Project and similar initiatives).
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Recommendation 3. Ensure a sufficiently robust supply of qualified
accounting faculty to meet demand for the future and help prepare new
entrants to the profession to perform high quality audits.
The Committee heard testimony from individuals regarding the need
to have an adequate supply of faculty with the knowledge and experience
to develop qualified professionals for the increasingly complex and
global auditing profession.\83\
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\83\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Written
Submission of David W. Leslie, Chancellor Professor of Education,
College of William and Mary, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Leslie120307.pdf
(noting a 13.3% decline in accounting faculty from 1988 to 2004);
Record of Proceedings (Feb. 4, 2008) (Written Submission of Edward
E. Nusbaum, Chief Executive Officer, Grant Thornton LLP, and
Chairman, Grant Thornton International Board of Governors, 5),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Nusbaum020408.pdf (stating that ``recent years
have seen a reduction in accounting faculty, based on a wave of
retirements and lack of accounting PhDs coming into the system'');
Record of Proceedings (Dec. 3, 2007) (Written Submission of Ira
Solomon, R.C. Evans Distinguished Professor, and Head, Department of
Accountancy, University of Illinois, 4), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Solomon120307.pdf (stating that ``the number of persons entering
accountancy doctoral programs is too low to sustain the accountancy
professoriate'').
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[[Page 44326]]
The Committee recognizes that there is a high level of concern
about the adequacy of both the near- and the long-term supply of
doctoral faculty, especially given the anticipated pace of faculty
retirements. According to National Study of Postsecondary Faculty data,
the number of full- and part-time accounting faculty at all types of
educational institutions fell by 13.3% from 20,321 in 1993 to 17,610 in
2004, while student (undergraduate) enrollment increased by 12.3% over
the same period.\84\ See Figure 5.
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\84\ Record of Proceedings (Dec. 3, 2007) (Written Submission of
David W. Leslie, Chancellor Professor of Education, College of
William and Mary, 5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Leslie120307.pdf.
[GRAPHIC] [TIFF OMITTED] TN30JY08.041
Moreover, the current pipeline of doctoral faculty is not keeping
pace with anticipated retirements. In November 2006, it was estimated
that one-third of the approximately 4,000 accounting doctoral faculty
in the United States were 60 years old or older, and one-half were 55
years old or older.\85\ The average retirement age of accounting
faculty was 62.4 years.
---------------------------------------------------------------------------
\85\ James R. Hasselback, 2007 Analysis of Accounting Faculty
Birthdates, available at http://aaahq.org/temp/phd/JimHasselbackBirthdateSlide.pdf.
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In terms of specialization within the accounting discipline, an AAA
study concluded that only 22% and 27% of the projected demand for
doctoral faculty in auditing and tax, respectively, will be met by
expected graduations in the coming years.\86\ However, 91% and 79% of
the projected demand for doctoral faculty in financial accounting and
managerial accounting, respectively, will be met.\87\
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\86\ R. David Plumlee, Steven J. Kachelmeier, Silvia A. Madeo,
Jamie H. Pratt, and George Krull, Assessing the Shortage of
Accounting Faculty, 21 Issues in Accounting Education, No. 2, 119
(May 2006).
\87\ R. David Plumlee, Steven J. Kachelmeier, Silvia A. Madeo,
Jamie H. Pratt, and George Krull, Assessing the Shortage of
Accounting Faculty, 21 Issues in Accounting Education, No. 2, 119
(May 2006).
---------------------------------------------------------------------------
In addition to the accounting faculty supply issues, the Committee
heard testimony from witnesses on the need to ensure faculty are
qualified and able to teach students the latest market developments,
such as fair value accounting and IFRS. The Committee learned that
often new accounting faculty may have little practical experience.\88\
Witnesses testified to the difficulty of academics acquiring
``practice-oriented'' knowledge as the bond between the profession and
academia is underdeveloped. Witnesses did suggest improving these
relationships with incentives for sabbaticals and sharing practice
experience.\89\
---------------------------------------------------------------------------
\88\ Record of Proceedings (Dec. 3, 2007) (Written Submission of
Joseph V. Carcello, Director of Research, Corporate Governance,
University of Tennessee, Knoxville, 21), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Carcello120307.pdf.
\89\ Record of Proceedings (Feb. 4, 2008) (Written Submission of
Cynthia Fornelli, Executive Director, Center for Audit Quality, 2),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Fornelli020408.pdf (noting that the auditing
firms recognize the need to be more active in sharing practical
experiences with academics); Record of Proceedings (Feb. 4, 2008)
(Written Submission of Phillip M.J. Reckers, Professor of
Accountancy, Arizona State University, 19), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Reckers020408.pdf (``[R]elationships between practitioners and
academics have so diminished that they are little more than formal
liaison assignments involving very few parties from any side * * *
[w]here there have been opportunities for interaction (curriculum
issues, policy deliberations, research matters), those opportunities
have been embraced perceptibly less often.'').
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In this regard, the Committee makes the following recommendations:
(a) Increase the supply of accounting faculty through public and
private funding and raise the number of professionally qualified
faculty that teach on campuses.
The Committee recognizes that ensuring an adequate supply of
doctoral accounting faculty in higher education is crucial to both
retaining the academic standing of the discipline on campus and
developing well-prepared and educated entry-level professionals. The
resource represented by these professionals is essential for high
quality audits. The Committee believes that high quality audits are
critical to well-functioning capital markets, and therefore the funding
necessary to
[[Page 44327]]
supply the healthy pipeline of doctoral accounting faculty to assist in
providing these human capital resources must be made available.\90\ The
Committee therefore recommends expanding government funding, at both
the federal and state level, for accounting doctoral candidates. The
Committee also recommends that private sources (including corporations,
institutional investors, and foundations as well as auditing firms)
continue to be encouraged to fund accounting doctoral candidates.\91\
The Committee recognizes and commends the auditing firms' support of
doctoral candidates.\92\
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\90\ See Record of Proceedings (June 3, 2008) (Written
Submission of Jean C. Bedard, Timothy B. Harbert Professor of
Accounting, Department of Accountancy, Bentley College, 2),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Bedard060308.pdf (noting that ``[f]unding for
doctoral study is absolutely critical'').
\91\ See, e.g., Record of Proceedings (June 3, 2008) (Written
Submission of Kayla J. Gillan, Chief Administrative Officer,
RiskMetrics Group, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Gillan060308.pdf (noting
that Sarbanes-Oxley Act Section 109(c)(2) states that monetary
penalties assessed by the PCAOB against registered firms and
individuals are to be used exclusively to fund merit-based
scholarships for accounting undergraduate and graduate students and
that Section 109(c)(2) also includes certain procedural requirements
for the funds' release, such as Congressional approval, and
recommending the Committee suggest eliminating the unnecessary
procedural obstacles contained in the statute);
PricewaterhouseCoopers LLP, Comment Letter Regarding Draft Report
and Draft Report Addendum 6 (June 30, 2008), available at http://comments.treas.gov/_files/PwCCommentLtrTreasCmtDraftandAddendum63008.pdf (noting that the
profession provides funding for faculty, but other private sector
participants as well as Congress and state and local officials could
contribute funding).
\92\ See Record of Proceedings (Feb. 4, 2008) (Written
Submission of Cynthia Fornelli, Executive Director, Center for Audit
Quality, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Fornelli020408.pdf. Other
commenters have suggested another method to increase the number of
faculty and professionals as well as potentially expand diversity
within the profession is by increasing the current H-1B quota of
65,000. See, e.g., Cynthia M. Fornelli, Executive Director, Center
for Audit Quality, Comment Letter Regarding Draft Report and Draft
Report Addendum 9 (June 26, 2008), available at http://comments.treas.gov/_files/CAQCommentletter62708FINAL.pdf (noting
the need to increase the quota for H-1B visas to help increase the
number of faculty and the number of professionals knowledgeable of
international issues); PricewaterhouseCoopers LLP, Comment Letter
Regarding Draft Report and Draft Report Addendum 7 (June 30, 2008),
available at http://comments.treas.gov/_files/PwCCommentLtrTreasCmtDraftandAddendum63008.pdf (recommending
immigration reform, such as expansion of H-1B visa program, to
increase supply of accounting faculty, international experience, and
diversity). But, c.f., Carl Olson, California National University,
Comment Letter Regarding Draft Report and Draft Report Addendum 31-
32 (June 6, 2008), available at http://comments.treas.gov/_files/OlsonCommentLetter0606082.pdf (opposing the use of H-1B visas by
accounting firms to recruit employees).
---------------------------------------------------------------------------
Currently, minimum accreditation requirements for accountancy
faculty typically require that approximately 50% of full-time faculty
have a doctoral degree. Commonly, business school deans and academic
vice presidents (those making the budgetary decisions regarding faculty
allotments on campuses) interpret this accreditation requirement to
require that a minimum of 50% of a department's faculty hold an earned
doctorate and are actively engaged in research and publication
activity. Although a high percentage of faculty is expected to be
professionally qualified (i.e., having recent direct business
experience), at times gatekeepers for budget allocations may be less
enthusiastic about maximizing the number of professionally qualified
teaching slots in a given program. The Committee sees benefits to the
increased participation of professionally qualified and experienced
faculty, who would bring additional practical business experience to
the classrooms, and notes that witnesses and commenters have
underscored the benefits of professionally qualified and experienced
faculty.\93\ Therefore, the Committee recommends that accrediting
agencies continue to actively support faculty composed of academically
and professionally qualified and experienced faculty.
---------------------------------------------------------------------------
\93\ See Andrew D. Bailey, Jr., Professor of Accountancy-
Emeritus, University of Illinois, and Senior Policy Advisor, Grant
Thornton LLP, Comment Letter Regarding Discussion Outline 19 (Jan.
30, 2008), available at http://comments.treas.gov/_files/BAILEYCOMMENTSONTREASURYADVISORYCOMMITTEEOUTLINEFINALSUBMISSION13008.
doc (stating that ``[t]here are clearly practice professionals that
make excellent contributions to some of the most highly rated
accounting programs in the country''); Record of Proceedings (Feb.
4, 2008) (Written Submission of Cynthia Fornelli, Executive
Director, Center for Audit Quality, 3), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Fornelli020408.pdf (stating that accreditation bodies ``revise
accreditation standards to allow the employment of more audit
professionals, either active or retired, as adjunct professors'').
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(b) Emphasize the utility and effectiveness of cross-sabbaticals.
As discussed above, cross-sabbaticals are interactive relationships
where faculty and seasoned professionals are regularly represented in
the practice and academic environments through exchanges. For example,
currently, the Securities and Exchange Commission (SEC) and the FASB
offer fellowship programs for professional accountants and accounting
academics. Evidence suggests that such exchanges can be beneficial, and
continued development of such exchanges is expected to provide
substantial benefits for all parties.\94\ Cross-sabbaticals present an
opportunity for ``reflective thinking'' for seasoned professionals.\95\
Academics often face the disincentive of being forced to forgo their
full salaries in order to engage in such sabbaticals,\96\ and colleges
and universities may not encourage professional practice sabbaticals,
preferring that the focus of faculty be directed exclusively toward
academic research and the number and placement of scholarly articles.
The Committee believes that changing both the academic and practice
culture will require a plan and commitment of support at the highest
institutional levels.
---------------------------------------------------------------------------
\94\ See Record of Proceedings (Feb. 4, 2008) (Written
Submission of Cynthia Fornelli, Executive Director, Center for Audit
Quality, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Fornelli020408.pdf (recommending
encouraging sabbaticals, internships, and fellowship opportunities,
structured to give faculty opportunities to conduct research for
promotion and tenure); Record of Proceedings (June 3, 2008) (Written
Submission of William Kinney, Charles & Elizabeth Prothro Regents
Chair in Business and Price Waterhouse Fellow in Auditing,
University of Texas, Austin, 5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Kinney060308.pdf
(noting the completion of an August 2007 to February 2008 assignment
as an academic fellow in the Professional Practice Group of Office
of Chief Accountant at the SEC, and stating that the experience
provided a greater understanding of the regulatory process and that
``my students have already benefited through more relevant
classes''); Record of Proceedings (Feb. 4, 2008) (Oral Remarks of
Phillip M.J. Reckers, Professor of Accountancy, Arizona State
University, 68), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Reckers020408.pdf (stating that
sabbaticals deliver professors ``a wealth of knowledge they could
bring back in the classroom'').
\95\ See Record of Proceedings (Mar. 13, 2008) (Oral Remarks of
H. Rodgin Cohen, Chairman, Sullivan & Cromwell LLP, 69), available
at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-03-13-08.pdf; Record of Proceedings (Mar. 13, 2008) (Oral
Remarks of Zoe-Vonna Palmrose, Deputy Chief Accountant, SEC, 67),
available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-03-13-08.pdf.
\96\ Record of Proceedings (Feb. 4, 2008) (Oral Remarks of
Phillip M.J. Reckers, Professor of Accountancy, Arizona State
University, 67-69), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Reckers020408.pdf (noting
the financial disincentives associated with sabbaticals).
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Specifically, the Committee recommends that educational
institutions, auditing firms, corporations, federal and state
regulators, and others engage in a two-fold strategy to both encourage
cross-sabbaticals and eliminate financial or career disincentives for
participating in such experiences.\97\ Further, the
[[Page 44328]]
Committee recommends that university administrators place as high a
value on professional sabbaticals for purposes of promotion and tenure
as they do for research and scholarly publication.\98\
---------------------------------------------------------------------------
\97\ See, e.g., Deloitte LLP, Comment Letter Regarding Draft
Report and Draft Report Addendum 11 (June 27, 2008), available at
http://comments.treas.gov/_files/DeloitteLLPCommentLetter.pdf
(noting the formation of a task force on cross-sabbaticals with
accounting faculty, including those at HBCUs); Record of Proceedings
(June 3, 2008) (Written Submission of William Kinney, Charles &
Elizabeth Prothro Regents Chair in Business and Price Waterhouse
Fellow in Auditing, University of Texas, Austin, 5), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Kinney060308.pdf (supporting the idea of allowing
professors to take sabbaticals and providing direct evidence by
describing a recent assignment as an academic fellow in the
Professional Practice Group of the SEC's Office of Chief
Accountant).
\98\ See Joseph V. Carcello, Chair, AAA Task Force to Monitor
the Activities of the Treasury ACAP, Professor and Director of
Research--Corporate Governance Center, University of Tennessee, Jean
C. Bedard, Professor of Accountancy, Bentley College, and Dana R.
Hermanson, Chair of Private Enterprise and Professor of Accounting,
Kennesaw State University, Comment Letter Regarding Draft Report and
Draft Report Addendum 4 (May 15, 2008), available at http://comments.treas.gov/_files/ACAPCommentLetterMay152008.pdf (noting
the need to ``[p]lace equal emphasis on completing a sabbatical with
a private sector institution or government entity as with publishing
one `tier A' paper'').
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The Committee also recommends that accrediting agencies establish
an expectation that at least one full-time member per year of each
accounting faculty group participate in a sabbatical with a private
sector or a governmental entity. Auditing firms, corporations,
government agencies, and universities should be expected to provide
these opportunities with the elimination of any financial
disincentives. Further, the Committee recommends expanding faculty
fellowship programs in agencies, such as those at the SEC and the FASB,
and making them available at the PCAOB. The successful long-term
operation of these programs at the SEC and the FASB and the application
of appropriate conflict-of-interest and recusal rules have demonstrated
that these programs can be maintained and expanded while protecting
against conflicts of interest.
(c) Create a variety of tangible and sufficiently attractive
incentives that will motivate private sector institutions to fund both
accounting faculty and faculty research, to provide practice materials
for academic research and for participation of professionals in
behavioral and field study projects, and to encourage practicing
accountants to pursue careers as academically and professionally
qualified faculty.
As discussed above, there are concerns about the adequate supply of
accounting faculty and about the need to have faculty who can inject
more practical experience into classroom learning. Currently, there are
few specific financial incentives encouraging private sector funding of
accounting doctoral faculty or sponsoring of professional accountants
to teach at educational institutions. Nonetheless, the Committee notes
that the profession recognizes the need to support initiatives to
increase faculty and is currently directing its efforts to raise funds
for such a new initiative.\99\
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\99\ See Record of Proceedings (Feb. 4, 2008) (Written
Submission of Cynthia Fornelli, Executive Director, Center for Audit
Quality, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Fornelli020408.pdf (stating that
``[b]ecause of the profession's concern over the shortage of
qualified faculty to teach accounting, the AICPA Foundation, along
with the 80 largest CPA firms, are working to raise more than $17
million to fund additional PhD candidates at participating
universities'').
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The Committee also heard from several witnesses regarding the
unavailability of data relating to auditing practice and the impact
this lack of data has on research and potentially on the profession's
sustainability. In particular, witnesses stated that the decline in
auditing research materials, including archival or experimental data,
will lead to a further decline in faculty and doctoral students
specializing in auditing.\100\ Since educational institutions normally
require publications in top tier journals for promotion or tenure,
faculty and doctoral students will conduct research in accounting areas
where data are prevalent.
---------------------------------------------------------------------------
\100\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Written
Submission of Joseph V. Carcello, Director of Research, Corporate
Governance, University of Tennessee, Knoxville, 21), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Carcello120307.pdf (``[D]octoral students in * * * [a 2007]
Deloitte [Foundation] study indicated that lack of access to public
accounting firm and client data represented a severe obstacle to the
research they want to conduct, and that this difficulty might result
in them focusing on a different accounting sub-area. This issue must
be addressed, or auditing may cease to exist as a discipline on many
university campuses.''); Record of Proceedings (Feb. 4, 2008)
(Written Submission of Phillip M.J. Reckers, Professor of
Accountancy, Arizona State University, 8), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Reckers020408.pdf (recommending the development of a means ``for
researchers to gain access to auditing related data'' and noting,
without this means, interest in doctoral auditing programs will
continue to decline); Record of Proceedings (Dec. 3, 2007) (Written
Submission of Ira Solomon, R.C. Evans Distinguished Professor, and
Head, Department of Accountancy, University of Illinois, 7),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Solomon120307.pdf (noting the lack of auditing
research data and the ``drastic decline in auditing research among
extant accountancy faculty and among accountancy doctoral
students'').
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The Committee also heard that encouraging more professionally
qualified and experienced faculty will foster a stronger relationship
between academia and the profession.\101\ Currently, there exists a
need for more interaction between academia and the profession.\102\
Encouraging practicing accountants to pursue careers as academically
and professionally qualified faculty would bring practical business
experience to classrooms so that students are better prepared to
perform quality audits in the dynamic business environment.
---------------------------------------------------------------------------
\101\ Record of Proceedings (Feb. 4, 2008) (Written Submission
of Cynthia Fornelli, Executive Director, Center for Audit Quality,
2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Fornelli020408.pdf.
\102\ Record of Proceedings (Feb. 4, 2008) (Written Submission
of Phillip M.J. Reckers, Professor of Accountancy, Arizona State
University, 19), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Reckers020408.pdf.
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Finally, the Committee recommends that Congress pass legislation
creating a variety of tangible incentives for private sector
institutions to establish support for accounting and auditing faculty
and faculty research, to facilitate access to research data and
individuals,\103\ and to sponsor transition of professional accountants
from practice to teaching positions. These incentives must be
sufficiently attractive to companies and auditing firms to affect rapid
behavioral change, and should avoid cumbersome levels of
administration. The Committee believes that these incentives would
[[Page 44329]]
provide the necessary impetus to private sector institutions to help
increase the number of accounting faculty as well as faculty with
significant practical experience.
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\103\ See, e.g., Joseph V. Carcello, Chair, AAA Task Force to
Monitor the Activities of the Treasury ACAP, Professor and Director
of Research--Corporate Governance Center, University of Tennessee,
Jean C. Bedard, Professor of Accountancy, Bentley College, and Dana
R. Hermanson, Chair of Private Enterprise and Professor of
Accounting, Kennesaw State University, Comment Letter Regarding
Draft Report and Draft Report Addendum 2 (May 15, 2008), available
at http://comments.treas.gov/_files/ACAPCommentLetterMay152008.pdf
(recommending that auditing firms and regulators assist academic
researchers with access to data relating to the auditing practice);
Deloitte LLP, Comment Letter Regarding Draft Report and Draft Report
Addendum 11-12 (June 27, 2008), available at http://comments.treas.gov/_files/DeloitteLLPCommentLetter.pdf (noting the
attempt to actively work with academia to find ways to overcome
confidentiality issues concerning auditing practice data); Record of
Proceedings (June 3, 2008) (Written Submission of Kayla J. Gillan,
Chief Administrative Officer, RiskMetrics Group, 2), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Gillan060308.pdf (recommending that everyone have access to
PCAOB inspection data and suggesting the Committee seek legislative
amendments to allow this access); Record of Proceedings (June 3,
2008) (Written Submission of William Kinney, Charles & Elizabeth
Prothro Regents Chair in Business and Price Waterhouse Fellow in
Auditing, University of Texas, Austin, 5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Kinney060308.pdf (suggesting legislation encouraging access to
data).
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Recommendation 4. Develop and maintain consistent demographic and
higher education program profile data.
The Committee heard testimony regarding the lack of consistent
demographic and higher education program profile data concerning the
profession.\104\ The need for comparable, consistent, periodic
information regarding the demographic profile of professional
accountants and auditors, related higher education program capacity,
entry-level supply and demand of personnel, accounting firm retention
and compensation practices, and similar particulars are fundamental to
a meaningful understanding of the human capital circumstances impacting
the public company auditing profession and its future and
sustainability.
---------------------------------------------------------------------------
\104\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Questions
for the Record of David A. Costello, President and Chief Executive
Officer, NASBA, 2-4 (Feb. 6, 2008)), available at http://www.treas.gov/offices/domestic-finance/acap/QFRs-12-3-07.pdf
(stating that ``[s]ince 1970, * * * NASBA and the AICPA have
recognized the need for a national database for Certified Public
Accountants and have taken steps leading to the development of the
database * * * [c]urrently, NASBA is not aware of a mechanism or
database which would provide an accurate count of CPAs, without the
effect of `double counting' ''); Julia Grant, Demographic Challenges
Facing the CPA Profession, 20 Research in Accounting Regulation
(2008); Record of Proceedings (Dec. 3, 2007) (Written Submission of
Ira Solomon, R.C. Evans Distinguished Professor, and Head,
Department of Accountancy, University of Illinois, 13), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Solomon120307.pdf (noting the lack of comprehensive
accounting profession supply and demand data and recommending the
``establishment of a continuous and comprehensive system that
produces more timely and reliable supply and demand data'').
---------------------------------------------------------------------------
Historically, there has been neither an ongoing collection of data
nor a centralized location where the general public can access data.
For instance, the AICPA publishes a supply and demand study every two
years. Additionally, various other groups, such as the AAA, the
National Association of State Boards of Accountancy, colleges and
universities, and individuals collect some of these data but not in a
manner available and useful for research.
Materials such as those supplied by the Center for Audit Quality to
the Committee,\105\ previous AICPA Supply and Demand studies,\106\ and
AAA-commissioned demographic research \107\ provide examples of the
necessary information. In addition, AICPA membership trends, augmented
by data available from state boards of accountancy regarding numbers of
licensees, may be useful data.
---------------------------------------------------------------------------
\105\ Center for Audit Quality, Report of the Major Public
Company Audit Firms to the Department of the Treasury Advisory
Committee on the Auditing Profession (Jan. 23, 2008), available at
http://www.thecaq.org/publicpolicy/data/TRData2008-01-23-FullReport.pdf.
\106\ Dennis R. Reigle, Heather L. Bunning and Danielle Grant,
2008 Trends in the Supply of Accounting Graduates and the Demand for
Public Accounting Recruits (2008), available at http://ceae.aicpa.org/NR/rdonlyres/C1E23302-17D3-4ED5-AE81-B274D9CD7812/0/AICPA_Trends_Reports_2008.pdf.
\107\ David Leslie, Accounting Faculty in U.S. Colleges and
Universities: Status and Trends, 1993-2004, A Report of the American
Accounting Association (Feb. 19, 2008).
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Therefore, the Committee recommends the establishment of a national
cooperative committee, comprised of organizations such as the AICPA and
the AAA, to encourage periodic consistent demographic and higher
education program profile data.\108\ The Committee believes that having
such data available will increase the ability of auditing firms,
corporations, investors, academics, policy makers, and others to
understand more fully, monitor and evaluate, and take necessary or
desirable actions with respect to the human capital in the auditing
profession and its future and sustainability.
---------------------------------------------------------------------------
\108\ See, e.g., Joseph V. Carcello, Chair, AAA Task Force to
Monitor the Activities of the Treasury ACAP, Professor and Director
of Research--Corporate Governance Center, University of Tennessee,
Jean C. Bedard, Professor of Accountancy, Bentley College, and Dana
R. Hermanson, Chair of Private Enterprise and Professor of
Accounting, Kennesaw State University, Comment Letter Regarding
Draft Report and Draft Report Addendum 2 (May 15, 2008), available
at http://comments.treas.gov/_files/ACAPCommentLetterMay152008.pdf
(supporting this Recommendation); Ernst & Young LLP, Comment Letter
Regarding Draft Report and Draft Report Addendum 23 (June 27, 2008),
available at http://comments.treas.gov/_files/EYACAPCommentLetterFINAL2.pdf (supporting this Recommendation);
Record of Proceedings (June 3, 2008) (Written Submission of Anne M.
Lang, Chief Human Resources Officer, Grant Thornton LLP, 4),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Lang060308.pdf (supporting this
Recommendation).
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Recommendation 5. Encourage the AICPA and the AAA to jointly form a
commission to provide a timely study of the possible future of the
higher education structure for the accounting profession.
The Committee heard testimony regarding the feasibility of
establishing a free-standing, post-graduate professional educational
structure.\109\ Currently, there is no post-graduate institutional
arrangement dedicated to accounting and auditing. Graduate programs in
accounting are generally housed within business schools and linked with
undergraduate accounting programs.
---------------------------------------------------------------------------
\109\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Oral
Submission of Joseph V. Carcello, Director of Research, Corporate
Governance, University of Tennessee, Knoxville, 3), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/CarcelloOralStatement120307.pdf (recommending that ``the
Advisory Committee consider a different model--an education model
involving professional schools of auditing * * *''); Record of
Proceedings (June 3, 2008) (Written Submission of Anne M. Lang,
Chief Human Resources Officer, Grant Thornton LLP, 5), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Lang060308.pdf (noting that the establishment of a
commission to study a higher education structure for the accounting
profession ``is a very sound'' recommendation). But, c.f., Record of
Proceedings (Feb. 4, 2008) (Written Submission of Phillip M.J.
Reckers, Professor of Accountancy, Arizona State University, 3),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Reckers020408.pdf (discounting the feasibility
of free-standing professional schools).
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The history of the development of U.S. educational programs and
preparation for accounting careers reveals a pattern of evolution of
increasing formal higher education, with accreditation standards
following and reinforcing this evolution, and with market needs
providing the impetus and context. Today, accrediting agencies have
recognized over 150 accounting programs as the result of these
programs' improving accounting education as envisioned by prior studies
and reports.
In a November 2006 Vision Statement, the chief executive officers
of the principal international auditing networks noted the challenges
in educating future auditing professionals, including the sheer
quantity and complexity of accounting and auditing standards, rapid
technological advancements, and the need for specialized industry
knowledge. \110\ This development in the market leads to a clear need
to anticipate and enhance the human capital elements of the auditing
profession. As such, this vision statement provides the impetus to
commission a group to study and propose a long-term institutional
arrangement for accounting and auditing education.
---------------------------------------------------------------------------
\110\ Global Capital Markets and the Global Economy: A Vision
From the CEOs of the International Audit Networks 15 (Nov. 2006).
---------------------------------------------------------------------------
As in the past, in the face of challenges of the changing
environment for the profession, the Committee believes that the
educational system should thoughtfully consider the feasibility of a
visionary educational model. Therefore, the Committee recommends that
the AICPA and the AAA jointly form a body to provide a timely study of
the possible future of the higher education structure for the
[[Page 44330]]
accounting profession.\111\ This commission may include representation
from higher education, practitioners from the wide spectrum of the
accounting and auditing profession, regulators, preparers, users of the
profession's services, and others. The commission would consider the
potential role of a postgraduate professional school model to enhance
the quality and sustainability of a vibrant accounting and auditing
profession. The commission should consider developments in accounting
standards and their application, auditing needs, regulatory framework,
globalization, the international pool of candidates, and technology.
Finally, a blueprint for this sort of enhanced professional educational
structure would also require the consideration of long-term market
circumstances, academic governance, operations, programs, funding and
resources, the role of accreditation, and experiential learning
processes.
---------------------------------------------------------------------------
\111\ See, e.g., Joseph V. Carcello, Chair, AAA Task Force to
Monitor the Activities of the Treasury ACAP, Professor and Director
of Research--Corporate Governance Center, University of Tennessee,
Jean C. Bedard, Professor of Accountancy, Bentley College, and Dana
R. Hermanson, Chair of Private Enterprise and Professor of
Accounting, Kennesaw State University, Comment Letter Regarding
Draft Report and Draft Report Addendum 5 (May 15, 2008), available
at http://comments.treas.gov/_files/ACAPCommentLetterMay152008.pdf
(supporting this Recommendation and noting the need for these
schools to be well-funded and be independent from business schools
with control over tenure and promotion); Deloitte LLP, Comment
Letter Regarding Draft Report and Draft Report Addendum 23 (June 27,
2008), available at http://comments.treas.gov/_files/DeloitteLLPCommentLetter.pdf (supporting this Recommendation and
noting the commission should consider other human capital issues
including financial and time concerns as well as recruiting
individuals from other disciplines); Record of Proceedings (June 3,
2008) (Written Submission of Anne M. Lang, Chief Human Resources
Officer, Grant Thornton LLP, 5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Lang060308.pdf
(agreeing with this Recommendation). But, c.f., Record of
Proceedings (June 3, 2008) (Written Submission of Frank K. Ross,
Director, Center for Accounting Education, Howard University School
of Business, 11), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Ross060308.pdf (noting
the financial concerns that an extra year of schooling would have on
the less affluent, which includes a ``disproportionate number'' of
minorities).
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V. Firm Structure and Finances
In addressing the sustainability of the auditing profession, the
Committee sought input on and considered a number of matters relating
directly to auditing firms, including audit quality, governance,
transparency, global organization, financial strength, ability to
access capital, the investing public's understanding of auditors'
responsibilities and communications, the limitations of audits,
particularly relating to fraud detection and prevention, as well as the
effect of litigation where audits are alleged to have been ineffective.
The Committee also considered the regulatory system applicable to
auditing firms.
While much data was available to the Committee, such information
was not exhaustive. Certain information regarding auditors of public
companies, the auditor of record, and audit fees is readily available.
Auditing firms also provide on a voluntarily basis certain other
information they believe useful to clients, regulators, and/or
investors. Also, in connection with the work of the Committee, the
largest firms provided certain additional input, through the Center for
Audit Quality (CAQ), sometimes by individual firm and sometimes in
summarized format.\112\
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\112\ Center for Audit Quality, Report of the Major Public
Company Audit Firms to the Department of the Treasury Advisory
Committee on the Auditing Profession (Jan. 23, 2008); Center for
Audit Quality, Second Supplement to Report of the Major Public
Company Audit Firms to the Department of the Treasury Advisory
Committee on the Auditing Profession (Apr. 16, 2008).
---------------------------------------------------------------------------
After reviewing these data and receiving testimony from witnesses
and comment letters, the Committee focused on a few specific areas:
Fraud prevention and detection; federal and state regulatory system;
governance; and disclosure of auditor changes.
The Committee recommends that regulators, the auditing profession,
and others, as applicable, effectuate the following:
Recommendation 1. Urge the [ ] to create a national center to
facilitate auditing firms' and other market participants' sharing of
fraud prevention and detection experiences, practices, and data and
innovation in fraud prevention and detection methodologies and
technologies, and commission research and other fact-finding regarding
fraud prevention and detection, and further, the development of best
practices regarding fraud prevention and detection.
Public Company Accounting Oversight Board (PCAOB) standards
currently require auditors to plan and perform audits to obtain
reasonable assurance whether financial statements are free of material
misstatement, including those caused by fraud.\113\ The Committee
considered testimony and commentary regarding auditing firms'
responsibilities and practices relating to fraud prevention and
detection.\114\ The auditing profession itself has recognized the
significance of its duties with respect to fraud: ``Perhaps no single
issue is the subject of more confusion, yet is more important, than the
nature of the obligation of auditors to detect fraud--or intentional
material misstatement of financial information by public companies.''
\115\
---------------------------------------------------------------------------
\113\ Consideration of Fraud in a Financial Statement, Interim
Auditing Standard AU 316 (Pub. Company Accounting Oversight Bd.
2002).
\114\ See, e.g., Andrew D. Bailey, Jr., Professor of
Accountancy-Emeritus, University of Illinois, and Senior Policy
Advisor, Grant Thornton LLP, Comment Letter Regarding Discussion
Outline 4 (Jan. 30, 2008), available at http://comments.treas.gov/_files/BAILEYCOMMENTSONTREASURYADVISORYCOMMITTEEOUTLINEFINALSUBMISSION13008.
doc; Record of Proceedings (Feb. 4, 2008) (Written Submission of
Dennis Johnson, Senior Portfolio Manager, Corporate Governance,
California Public Employees' Retirement System, 5), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Johnson020408.pdf.
\115\ Serving Global Capital Markets and the Global Economy: A
View from the CEOS of the International Audit Networks 12 (Nov.
2006).
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No formal forum currently exists where auditors and other market
participants regularly share their views and experiences relating to
fraud prevention and detection in the context of fraudulent financial
reporting. The Committee received testimony that it would improve audit
quality and benefit the capital markets and investors and other
financial statement users for auditing firms to share their fraud
detection experiences \116\ and to develop best practices relating to
fraud prevention and detection.\117\
---------------------------------------------------------------------------
\116\ See, Record of Proceedings (Feb. 4, 2008) (Questions for
the Record of Cynthia M. Fornelli, Executive Director, Center for
Audit Quality, 6 (Mar. 31, 2008)), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/-QFRs-2-4-08.pdf; Record of Proceedings (Dec. 3, 2007) (Written Submission of
James S. Turley, Chairman and Chief Executive Officer, Ernst & Young
LLP, 7), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Turley120307.pdf.
\117\ See, e.g., Record of Proceedings (Feb. 4, 2008) (Written
Submission of Edward E. Nusbaum, Chief Executive Officer, Grant
Thornton LLP, and Chairman, Grant Thornton International Board of
Governors, 10), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Nusbaum020408.pdf (stating that
``[s]uccess also requires that the profession work with standard
setters and regulators to develop best practices and the
infrastructure for effective audits designed to detect material
financial fraud'').
---------------------------------------------------------------------------
The Committee believes that a collective sharing of fraud
prevention and detection experiences among auditors and other market
participants will provide a broad view of auditor practices and
ultimately improve fraud prevention and detection capabilities and
enable the development of best practices. The Committee also believes
that research into industry trends and statistics will help auditors
focus and develop procedures to identify areas
[[Page 44331]]
and situations at greater risk for fraud. The Committee believes that
best practices regarding fraud prevention and detection will enhance
the processes and procedures of auditing firms.
The Committee recommends that the [ ] create a national center both
to facilitate auditing firms' sharing of fraud prevention and detection
experiences, practices, and data and innovation in fraud prevention and
detection methodologies and technologies and to commission research and
other fact-finding regarding fraud prevention and detection.\118\ The
Committee also recommends that the auditing firms, forensic accounting
firms, certified fraud examiners, investors, other financial statement
users, public companies, and academics develop, in consultation with
the PCAOB, the Securities and Exchange Commission (SEC), international
regulators, and the National Association of State Boards of Accountancy
(NASBA), best practices regarding fraud prevention and detection.\119\
The Committee also recognizes that a national center and best practices
will have greater impact if these concepts are ultimately extended and
embraced internationally.
---------------------------------------------------------------------------
\118\ See, e.g., Joseph Carcello, Chair, AAA Task Force to
Monitor the Activities of the Treasury ACAP Ernst & Young Professor
and Director of Research--Corporate Governance Center University of
Tennessee, Jean C. Bedard Timothy B. Harbert Professor of
Accountancy Bentley College, Dana R. Hermanson Dinos Eminent Scholar
Chair of Private Enterprise and Professor of Accounting Kennesaw
State University, Comment Letter Regarding Draft Report and Draft
Report Addendum 6, (May 15, 2008), available at http://comments.treas.gov/_files/ACAPCommentLetterMay152008.pdf
(supporting this Recommendation); Samuel K. Cotterell, Chair, NASBA,
and David A. Costello, President and CEO, NASBA, Comment Letter
Regarding Draft Report and Draft Report Addendum 2, (June 27, 2008),
available at http://comments.treas.gov/_files/June2908LetterheadTreasuryAdvisoryCommitteeontheAuditingProfession.pd
f (``Conclusions from, or approaches discussed during, Center
deliberations could have an immediate effect on the way accounting
practitioners approach the performance of audits and would likely
form the basis for consideration of changes in auditing
standards.''); Record of Proceedings (June 3, 2008) (Written
Submission of Kenneth Nielsen Goldmann, Capital Markets and SEC
Practice Director, J.H. Cohn LLP, 5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Goldmann060308.pdf (noting how useful such a center would be to
smaller firm auditors in detecting and preventing fraud.); Cynthia
Fornelli, Executive Director, Center for Audit Quality, Comment
Letter Regarding Draft Report and Draft Report Addendum 10-11, (June
26, 2008), available at http://comments.treas.gov/_files/CAQCommentletter62708FINAL.pdf (agreeing with this Recommendation
and volunteering the Center for Audit Quality to house this center).
But c.f., Jim Wanserski, Businessman, Comment Letter Regarding Draft
Report and Draft Report Addendum (June 3, 2008), available at http://comments.treas.gov/_files/ACAPDraftReportcommentsJune22008.doc
(stating that public company management is key in fraud prevention
and detection efforts more so than the external auditor and notes
the small percentage of frauds uncovered by public company
auditors).
\119\ See Dave Richards, Institute of Internal Auditors, Comment
Letter Regarding Draft Report and Draft Report Addendum 3, (June 13,
2008), available at http://comments.treas.gov/_files/IIARESPONSETREASURYADVISORYCOMMITTEEONAUDITING061308.doc (suggesting
the Institute of Internal Auditors be included in the listing of
organizations providing best practices).
---------------------------------------------------------------------------
Recommendation 2. Encourage greater regulatory cooperation and
oversight of the public company auditing profession to improve the
quality of the audit process and enhance confidence in the auditing
profession and financial reporting.
The SEC, the PCAOB, and individual state boards of accountancy
regulate the auditing profession. The SEC and the PCAOB enforce the
securities laws and regulations addressing public company audits.
Individual state accountancy laws in fifty-five jurisdictions in the
United States govern the licensing and regulation of both individuals
and firms who practice as certified public accountants.\120\ State
boards of accountancy enforce these laws and also administer the
Uniform CPA Examination. NASBA serves as a forum for these boards to
enhance their regulatory effectiveness and communication.
---------------------------------------------------------------------------
\120\ Record of Proceedings (Dec. 3, 2007) (Written Submission
of David A. Costello, President and Chief Executive Officer,
National Association of State Board of Accountancy, 2), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Costelllo120307.pdf.
---------------------------------------------------------------------------
The Committee believes that enhancing regulatory cooperation and
reducing duplicative oversight of the auditing profession by federal
and state authorities and enhancing licensee practice mobility among
the states are in the best interest of the public and the effective
operation of the capital markets. In this regard, the Committee
recommends the following:
(a) Institute the following mechanism to encourage the states to
substantially adopt the mobility provisions of the Uniform Accountancy
Act, Fifth Edition (UAA) \121\: If states have failed to adopt the
mobility provisions of the UAA by December 31, 2010, Congress should
pass a federal provision requiring those states to adopt these
provisions.
---------------------------------------------------------------------------
\121\ Uniform Accountancy Act (Fifth Ed. July 2007).
---------------------------------------------------------------------------
The American Institute of Certified Public Accountants (AICPA) and
NASBA jointly author the UAA, a model bill which focuses on the
education, examination, and experience requirements for certified
public accountants. As the name of the bill suggests, the UAA advances
the goal of uniformity, in addition to protecting the public interest
and promoting high professional standards. In 2006 and 2007,
recognizing the changing global economy and the impact of electronic
commerce, the AICPA and NASBA proposed amendments to the UAA to allow
for a streamlined framework for CPA ``mobility'' of practice among the
states; that is, a CPA's practice privileges would be valid and
portable across all state jurisdictions beyond that of the CPA's
resident state.\122\
---------------------------------------------------------------------------
\122\ See Record of Proceedings (Dec. 3, 2007) (Questions for
the Record of David A. Costello, President and Chief Executive
Officer, National Association of State Board of Accountancy, 1 (Feb.
6, 2008)), available at http://www.treas.gov/offices/domestic-finance/acap/QFRs-12-3-2007.pdf (``As the global business community
continues to expand, CPAs will be required to practice beyond the
state in which they reside. Inefficiencies are created when those
individuals are required to complete paperwork and submit a fee for
every state in which they perform professional services.''). Note
that the UAA does require notification or ``permitting'' for out-of-
state firms performing attest services for audit clients
headquartered in another state, but not for individual CPAs. See
UAA, Sec. Sec. 7(a)(1), 7(c)(1), and 23(a)(4) (Fifth Ed. July
2007).
---------------------------------------------------------------------------
According to NASBA, to date thirty-one states have passed mobility
legislation. Two other states currently have mobility legislation
introduced and other bills are anticipated in the 2009 legislative
session. Almost every state is now discussing or considering mobility,
and a number of other state boards of accountancy have voted to support
and move forward with mobility.
The Committee considered testimony and commentary on the importance
to auditing firms' multi-state practices of the adoption of the UAA's
mobility provisions.\123\ A NASBA representative testified, ``In order
for our capital market system to continue to prosper and grow, NASBA
recognized the need to ensure that an efficient, effective mobility
system is in place that will allow CPAs and their firms, as
professional service providers, to serve
[[Page 44332]]
the needs of American businesses, where ever they are located.'' \124\
---------------------------------------------------------------------------
\123\ See, e.g., Amper, Politziner and Mattia, P.C., Comment
Letter Regarding Discussion Outline 2 (Nov. 14, 2007) available at
http://comments.treas.gov/_files/AmperPolitzinerMattia.pdf (noting
that ``[t]he ease of performing audits in any state by a valid CPA *
* * without requiring to be licensed by each state would be
beneficial.''); Record of Proceedings (Dec. 3, 2007) (Written
Submission of Dennis Nally, Chairman and Senior Partner,
PricewaterhouseCoopers LLP, 5) (Dec. 3, 2008), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Nally120307.pdf (noting that a number of states are cooperating and
working towards adopting uniform mobility requirements); Record of
Proceedings (Dec. 3, 2007) (Written Submission of James S. Turley,
Chairman and Chief Executive Officer, Ernst & Young LLP, 5),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Turley120307.pdf (``The Treasury Committee
should suggest that the states eliminate barriers to interstate
practice by universal adoption of the mobility provisions of the
Uniform Accountancy Act.'').
\124\ Record of Proceedings (Dec. 3, 2007) (Written Submission
of David A. Costello, President and Chief Executive Officer,
National Association of State Board of Accountancy, 6), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Costello120307.pdf.
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The Committee believes that, given the multi-state operations of
many public companies and the multi-state practices of many auditing
firms, practice mobility will foster a more efficient operation of the
capital markets. The Committee recommends the following mechanism to
encourage the states to adopt the UAA's mobility provisions: If states
have failed to adopt the mobility provisions of the UAA by December 31,
2010, Congress should pass a federal provision requiring those states
to adopt these provisions.\125\ The Committee recognizes that some
state legislatures meet biannually, and for such legislatures this
deadline poses a challenge.\126\ However, such a deadline should be
attainable and will encourage such legislatures to place this issue
high on their agenda. The Committee also recommends that the states
participate in NASBA's Accountancy Licensee Database (ALD) as a
mechanism to assist in maintaining appropriate oversight of CPAs
throughout the country regardless of where they practice and that
appropriate authorities interpret federal and state privacy regulations
to facilitate implementation of the ALD.
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\125\ See, e.g., Ernst & Young LLP, Comment Letter Regarding
Draft Report and Draft Report Addendum 24-25, (June 27, 2008),
available at http://comments.treas.gov/_files/EYACAPCommentLetterFINAL.pdf (agreeing with this Recommendation);
Mayer Hoffman McCann P.C., Comment Letter Regarding Draft Report and
Draft Report Addendum 2, (June 17, 2008), available at http://comments.treas.gov/_files/MayerHoffmanMcCannCommentLetter.pdf
(noting that the lack of mobility impairs firms from assigning the
best people to engagements and uses important resources to establish
and comply with multiple state licensure); PricewaterhouseCoopers,
Comment Letter Regarding Draft Report and Draft Report Addendum 9,
(June 30, 2008), available at http://comments.treas.gov/_files/PwCCommentLtrTreasCmtDraftandAddendum63008.pdf; Bruce Rosen, Eisner
LLP, Comment Letter Regarding Draft Report and Draft Report Addendum
(May 23, 2008), available at http://comments.treas.gov/index.cfm?FuseAction=Home.View&Topic_id=9&FellowType_id=1&CurrentPage=1 (noting the importance of putting the right
resources in the right place without the needless complexity of
differing state requirements). But c.f., Joseph Carcello, Chair, AAA
Task Force to Monitor the Activities of the Treasury ACAP Ernst &
Young Professor and Director of Research, Corporate Governance
Center University of Tennessee, Jean C. Bedard Timothy B. Harbert
Professor of Accountancy Bentley College, Dana R. Hermanson Dinos
Eminent Scholar Chair of Private Enterprise and Professor of
Accounting Kennesaw State University, Comment Letter Regarding Draft
Report and Draft Report Addendum 6, (May 15, 2008), available at
http://comments.treas.gov/_files/ACAPCommentLetterMay152008.pdf
(recommending that while there does need to be increased mobility,
it could be achieved by a national license for public company audits
in addition to state licensing.); William Hermann, Managing Partner,
and Gregory Coursen, Director of Professional Standards, Plante &
Moran, PLLC Comment Letter Regarding Draft Report and Draft Report
Addendum 2, (June 12, 2008), available at http://comments.treas.gov/_files/Commentletter61208.pdf (noting the AICPA's success in
driving the adoption of the UAA's mobility provision).
\126\ See, e.g., Samuel K. Cotterell, Chair, NASBA, and David A.
Costello, President and CEO, NASBA, Comment Letter Regarding Draft
Report and Draft Report Addendum 3, (June 27, 2008), available at
http://comments.treas.gov/_files/June2908LetterheadTreasuryAdvisoryCommitteeontheAuditingProfession.pd
f (recommending a later due date because some states may not be able
to meet the 2010 deadline due to their legislative calendars);
Cynthia Fornelli, Executive Director, Center for Audit Quality,
Comment Letter Regarding Draft Report and Draft Report Addendum 14-
15, (June 26, 2008), available at http://comments.treas.gov/_files/CAQCommentletter62708FINAL.pdf (suggesting delaying federal action
as states may adopt the provisions on their own or, at the least,
moving the deadline to December 31, 2011 to allow states adequate
time to adopt the provisions).
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(b) Require regular and formal roundtable meetings of regulators
and other governmental enforcement bodies in a cooperative effort to
improve regulatory effectiveness and reduce the incidence of
duplicative and potentially inconsistent enforcement regimes.
Under the federal securities laws, the SEC has enforcement
authority over public company auditing firms and oversight authority
over the PCAOB under the Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley).
Sarbanes-Oxley provides the PCAOB with registration, reporting,
inspection, standard-setting, and enforcement authority over public
company auditing firms.\127\ In addition, the fifty-five boards of
accountancy license, regulate, and enforce state accountancy laws
pertaining to certified public accountants and their firms. In
addition, the Department of Justice (DOJ) and state attorneys general
can bring enforcement actions against auditing firms and their
employees.
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\127\ Sarbanes-Oxley Act of 2002, 15 U.S.C. Sec. Sec. 7211-
7219.
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The Committee considered testimony from auditing firms on the
duplicative and sometimes inconsistent federal and state oversight of
the profession.\128\ The Committee does recognize that both federal and
state regulators have made attempts to coordinate better their
enforcement activities.\129\ One witness suggested the possible
formation of a commission to help improve regulatory
effectiveness.\130\ Another witness urged state and federal regulatory
cooperation to ensure harmonized regulation and licensure.\131\
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\128\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Written
Submission of Dennis Nally, Chairman and Senior Partner,
PricewaterhouseCoopers LLP, 5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Nally120307.pdf;
Record of Proceedings (Feb. 4, 2008) (Written Submission of Edward
E. Nusbaum, Chief Executive Officer, Grant Thornton LLP, and
Chairman, Grant Thornton International Board of Governors, 7),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Nusbaum020408.pdf; Record of Proceedings (Feb.
4, 2008) (Questions for the Record of Barry Salzberg, Chief
Executive Officer, Deloitte LLP, App. A 4 (Mar. 31, 2008)),
available at http://www.treas.gov/offices/domestic-finance/acap/agendas/QFRs-2-4-08.pdf (criticizing duplicative auditing firm
investigations by states with no nexus to alleged conduct).
\129\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Oral
Remarks of David A. Costello, President and Chief Executive Officer,
National Association of State Board of Accountancy, 98), available
at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-12-3-07.pdf (noting that ``[NASBA] has been working with the
PCAOB very closely coordinating efforts, trying to diminish as much
as possible the redundancy in enforcement'') Record of Proceedings
(Dec. 3, 2007) (Written Submission of David A. Costello, President
and Chief Executive Officer, National Association of State Board of
Accountancy, 6), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Costelllo120307.pdf (stating that
NASBA is assisting state boards in enforcement cases involving
multi-state activities).
\130\ Record of Proceedings (Feb. 4, 2008) (Written Submission
of Edward E. Nusbaum, Chief Executive Officer, Grant Thornton LLP,
and Chairman, Grant Thornton International Board of Governors, 7),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Nusbaum020408.pdf (noting that, ``it would be
useful to evaluate the possibility of an interstate commission for
the whole of the audit profession. Such a commission would bring
together state licensing authorities, the PCAOB, and appropriate
professional organizations. It would be the means to rationalize
existing disparities in licensing qualifications, continuing
education requirements and peer review for non-public company audit
practices. It would also enable enforcement of common regulations
and license discipline across state and federal jurisdictions.'').
\131\ Record of Proceedings (Dec. 3, 2007) (Written Submission
of Dennis Nally, Chairman and Senior Partner, PricewaterhouseCoopers
LLP, 5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Nally120307.pdf.
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The Committee recommends mandating regular and formal roundtables
of the PCAOB, the SEC, the DOJ, the state boards of accountancy, and
the state attorneys general, to periodically review the overall
enforcement regimes applicable to the public company auditing
profession.\132\
[[Page 44333]]
These roundtables also should focus on regulatory coordination,
improvement, and consistent approaches to enforcement to minimize
duplicative efforts. Because of the difficulty and cost of bringing
together many different state agencies on a regular basis, the
Committee recommends that NASBA assist states by taking a leadership
role in coordinating their responsibilities and interests.\133\
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\132\ See e.g., Joseph Carcello, Chair, AAA Task Force to
Monitor the Activities of the Treasury ACAP Ernst & Young Professor
and Director of Research--Corporate Governance Center University of
Tennessee, Jean C. Bedard Timothy B. Harbert Professor of
Accountancy Bentley College, Dana R. Hermanson Dinos Eminent Scholar
Chair of Private Enterprise and Professor of Accounting Kennesaw
State University, Comment Letter Regarding Draft Report and Draft
Report Addendum 6, (May 15, 2008), available at http://comments.treas.gov/_files/ACAPCommentLetterMay152008.pdf
(supporting this Recommendation); Samuel K. Cotterell, Chair, NASBA,
and David A. Costello, President and CEO, NASBA, Comment Letter
Regarding Draft Report and Draft Report Addendum 3, (June 27, 2008),
available at http://comments.treas.gov/_files/June2908LetterheadTreasuryAdvisoryCommitteeontheAuditingProfession.pd
f (supporting this Recommendation); Mayer Hoffman McCann P.C.,
Comment Letter Regarding Draft Report and Draft Report Addendum 2,
(June 13, 2008), available at http://comments.treas.gov/_files/MayerHoffmanMcCannCommentLetter.pdf (suggesting that all meetings be
made public); but, cf. Frank Frankowski, CFO, Airborne Systems,
Comment Letter Regarding Draft Report and Draft Report Addendum 1,
(June 2, 2008), available at http://comments.treas.gov/_files/FrankowskiLetter.pdf (stating that the Recommendation ``will only
add to the confusion and lack of focus on the underlying issues'').
\133\ Samuel K. Cotterell, Chair, NASBA, and David A. Costello,
President and CEO, NASBA, Comment Letter Regarding Draft Report and
Draft Report Addendum 3, (June 27, 2008), available at http://comments.treas.gov/_files/June2908LetterheadTreasuryAdvisoryCommitteeontheAuditingProfession.pd
f (supporting this Recommendation).
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(c) Urge the states to create greater financial and operational
independence of their state boards of accountancy.
The Committee is concerned about the financial and operational
independence of state boards of accountancy from outside influences,
such as other state agencies, and the possible effect on the regulation
and oversight of the accounting profession. A number of state boards
are under-funded \134\ and lack the wherewithal to incur the cost of
investigations leading to enforcement. In addition, some state boards
fall under the centralized administrative ``umbrella'' of other state
agencies and lack control of financial resources and/or operational
independence necessary to carry out their mandate of public
protection.\135\ In some cases, board members are nominated by private
associations whose constituencies are not necessarily focused on the
protection of the public.
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\134\ National Association of State Boards of Accountancy,
Submission in Connection With the December 3, 2007 Meeting of the
Advisory Committee on the Auditing Profession (Jan. 2008)
(documenting the wide spectrum of funding for individual state
boards of accountancy and noting the number of full-time staff per
state boards of accountancy office).
\135\ Statement of Ronald J. Rotaru, Executive Director,
Accountancy Board of Ohio, before Ohio H. Finance Committee of the
Ohio House of Representatives 1 (Mar. 18, 2005) (``The evidence
shows that `consolidated' states have difficulty in effectively
enforcing the statutes governing the profession under their central
agency umbrella.'').
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The Committee believes that greater independence of state boards of
accountancy would enhance their regulatory effectiveness. The Committee
recommends that, working with NASBA, states evaluate and develop means
to make their respective state boards of accountancy more operationally
and financially independent of outside influences.\136\ The Committee
notes that this Recommendation to ensure the independence of state
boards of accountancy is not meant to limit in any way the efforts of
regulators and other governmental enforcement bodies to coordinate
their regulatory and enforcement activities as recommended in
Recommendation 2(b).
---------------------------------------------------------------------------
\136\ See Samuel K. Cotterell, Chair, NASBA, and David A.
Costello, President and CEO, NASBA, Comment Letter Regarding Draft
Report and Draft Report Addendum 3, (June 27, 2008), available at
http://comments.treas.gov/_files/June2908LetterheadTreasuryAdvisoryCommitteeontheAuditingProfession.pd
f (``There is a need to ensure all State Boards of Accountancy have
adequate funding to maintain a healthy regulatory environment, which
includes the ability to fund the costs of investigations and
disciplinary enforcement.''); Ernst & Young LLP Comment Letter
Regarding Draft Report and Draft Report Addendum 25, (June 27,
2008), available at http://comments.treas.gov/_files/EYACAPCommentLetterFINAL.pdf (agreeing that appropriate operational
support is needed to allow regulators the resources to monitor the
profession).
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Recommendation 3. Urge the PCAOB and the SEC, in consultation with
other federal and state regulators, auditing firms, investors, other
financial statement users, and public companies, to analyze, explore,
and enable, as appropriate, the possibility and feasibility of firms
appointing independent members with full voting power to firm boards
and/or advisory boards with meaningful governance responsibilities to
improve governance and transparency of auditing firms.
In response to the recent corporate accounting scandals, related
legislative and regulatory requirements and best practices, public
companies enhanced their corporate governance. One of the most
prominent alterations to the corporate governance scheme was the
increased representation and strengthening of independent members of
boards of directors. The New York Stock Exchange and the Nasdaq
enhanced their public company listing standards to call for a majority
of independent board members.\137\ Best practices have gone even
further, calling for a ``substantial majority'' of independent
directors.\138\
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\137\ New York Stock Exchange, Listed Company Manual Sec.
303A.01 (2003); Nasdaq, Manual, Rule 4350(c).
\138\ See, e.g., The Business Roundtable, Principles of
Corporate Governance (May 2002) (recommending, among other things, a
substantial majority of independent directors and fully independent
audit, corporate governance/nominating, and compensation
committees); The Conference Board, Commission on Public Trust and
Private Enterprise (Jan. 9, 2003) (recommending, among other things,
a substantial majority of independent directors and regular
executive sessions of the independent directors).
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A combination of Sarbanes-Oxley provisions and exchange listing
standards mandate fully independent audit committees, nominating/
corporate governance, and compensation committees.\139\ In addition,
independent directors' responsibilities have increased. For example,
the independent audit committee now appoints, oversees, and compensates
the auditor.\140\ Although difficult to quantify the benefits of these
enhancements, many have extolled these reforms as improving the quality
of board oversight, reducing conflicts of interest, and enhancing
investor confidence in public company operations and financial
reporting.\141\
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\139\ Sarbanes-Oxley Act, 15 U.S.C. Sec. 78-j (2002) (mandating
audit committees comprised solely of independent directors); New
York Stock Exchange, Listed Company Manual Sec. 303A.04
(2004)(requiring nominating/corporate governance committees
comprised solely of independent directors); New York Stock Exchange,
Listed Company Manual Sec. 303A.05 (2004) (requiring compensation
committees comprised solely of independent directors); New York
Stock Exchange, Listed Company Manual Sec. 303A.06 (2003)
(mandating compliance with SEC rules requiring audit committees
comprised solely of independent directors); Nasdaq, Manual, Rule
4350(d) (mandating compliance with SEC rules requiring audit
committees comprised solely of independent directors). Nasdaq,
Manual, Rule 4350(c)(3) (requiring independent directors to
determine, or recommend to the full Board for determination, the
compensation of all executive officers). Nasdaq, Manual, Rule
4350(c)(4) (requiring independent directors to determine, or
recommend to the full Board for determination, director nominees.).
\140\ Sarbanes-Oxley Act, 15 U.S.C. Sec. 78-j (2002).
\141\ For example, see the commentary accompanying New York
Stock Exchange, Listed Company Manual Sec. 303A.01 (``Requiring a
majority of independent directors will increase the quality of board
oversight and lessen the possibility of damaging conflicts of
interest.'') and the interpretive material accompanying Nasdaq Rule
4350, IM-4350-4 (``Independent directors * * * play an important
role in assuring investor confidence. Through the exercise of
independent judgment, they act on behalf of investors to maximize
shareholder value in the companies they oversee and guard against
conflicts of interest. Requiring that the board be comprised of a
majority of independent directors empowers such directors to carry
out more effectively these responsibilities.'').
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Public company auditing firms as private partnerships are not
subject to these requirements. Instead, state laws and partnership
agreements determine the governance of auditing firms.\142\ Often a
firm's governing body is
[[Page 44334]]
comprised of elected firm partners.\143\ Some firms are currently using
advisory boards, although these may not be well-publicized or
transparent.
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\142\ Center for Audit Quality, Report of the Major Public
Company Audit Firms to the Department of the Treasury Advisory
Committee on the Auditing Profession 2 (Jan. 23, 2008).
\143\ Center for Audit Quality, Report of the Major Public
Company Audit Firms to the Department of the Treasury Advisory
Committee on the Auditing Profession 2-22 (Jan. 23, 2008) (detailing
the various governance structures of the largest six auditing
firms); Cynthia M. Fornelli, Executive Director, Center for Audit
Quality, and James S. Turley, Chair, Governing Board, Center for
Audit Quality, and Chairman and CEO, Ernst & Young LLP, Comment
Letter Regarding Discussion Outline 13 (Nov. 30, 2007), available at
http://comments.treas.gov/_files/Treasurycommentletterfinal11302007.pdf (noting the largest auditing
firms have supervisory boards overseeing management).
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Several witnesses testified to the benefits of improving auditing
firm governance and suggested the addition of independent members to
the boards of directors.\144\ One witness called for an entirely
independent board with enhanced responsibilities, including chief
executive officer selection, determining partner compensation, and
monitoring potential conflicts of interest and audit quality.\145\ An
auditing firm representative noted that his firm was considering adding
independent members on its international governing board.\146\
---------------------------------------------------------------------------
\144\ See, e.g., Andrew D. Bailey, Jr., Professor of
Accountancy-Emeritus, University of Illinois, and Senior Policy
Advisory, Grant Thornton LLP, Comment Letter Regarding Discussion
Outline 12 (Jan. 30, 2008), available at http://comments.treas.gov/_files/BAILEYCOMMENTSONTREASURYADVISORYCOMMITTEEOUTLINEFINALSUBMISSION13008
(``[I]ndependent board members similar to those found on public
company boards would be a good governance practice and would signal
the markets about the firms' positive commitment to the public
good.''); Record of Proceedings (Feb. 4, 2008) (Written Submission
of Dennis Johnson, Senior Portfolio Manager, Corporate Governance,
California Public Employees' Retirement System, 3), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Johnson020408.pdf (stating that independent board of
directors could possibly decrease potential conflicts of interest).
\145\ Record of Proceedings (Feb. 4, 2008) (Written Submission
of Paul G. Haaga Jr., Vice Chairman, Capital Research and Management
Company, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Haaga020408.pdf.
\146\ Record of Proceedings (Feb. 4, 2008) (Written Submission
of Edward E. Nusbaum, Chief Executive Officer, Grant Thornton LLP,
and Chairman, Grant Thornton International Board of Governors, 7),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Nusbaum020408.pdf.
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The Committee believes that enhancing corporate governance of
auditing firms through the appointment of independent board members,
whose duties run to the auditing firm and its partners/owners, to
advisory boards with meaningful governance responsibilities (possible
under the current business model), and/or to firm boards could be
particularly beneficial to auditing firm management and
governance.\147\ The Committee also believes that such advisory boards
and independent board members could improve investor protection through
enhanced audit quality and firm transparency. The Committee is
particularly intrigued by the idea of independent board members with
duties and responsibilities similar to those of public company non-
executive board members.
---------------------------------------------------------------------------
\147\ Record of Proceedings (Feb. 4, 2008) (Written Submission
of Edward E. Nusbaum, Chief Executive Officer, Grant Thornton LLP,
and Chairman, Grant Thornton International Board of Governors, 7),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Nusbaum020408.pdf (``Such a change in the
governance model may be one way to strengthen our ability to serve
market participants and reinforce independence.'').
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The Committee recognizes the multiple challenges that instituting a
governance structure with independent board members might entail,
including compliance with state partnership laws and independence
requirements, insurance availability for such directors, and liability
concerns.\148\ Accordingly, the Committee recommends that the PCAOB and
the SEC, in consultation with federal and state regulators, auditing
firms, investors, other financial statement users, and public
companies, analyze, explore, and enable, as appropriate, the
possibility and feasibility of firms' appointing independent board
members and advisory boards.\149\ The Committee notes that the PCAOB
and the SEC should consider the size of auditing firms in analyzing and
developing any governance proposals.\150\
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\148\ Several witnesses commented on these difficulties. See,
e.g., Ernst & Young LLP Comment Letter Regarding Draft Report and
Draft Report Addendum 25-26, (June 27, 2008), available at http://comments.treas.gov/&_files/EYACAPCommentLetterFINAL.pdf; Cynthia
Fornelli, Executive Director, Center for Audit Quality, Comment
Letter Regarding Draft Report and Draft Report Addendum 17-19, (June
26, 2008), available at http://comments.treas.gov/_files/CAQCommentletter62708FINAL.pdf; William Hermann, Managing Partner,
and Gregory Coursen, Director of Professional Standards, Plante &
Moran, PLLC Comment Letter Regarding Draft Report and Draft Report
Addendum 1-2, (June 13, 2008), available at http://comments.treas.gov/&_files/Commentletter61208.pdf; Record of
Proceedings (June 3, 2008) (Written Submission of Barry Mathews,
Deputy Chairman, Aon Corporation, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Mathews060308.pdf.; David McDonnell, Chief Executive Officer, Grant
Thornton International Ltd, and Edward E. Nusbaum, Chief Executive
Officer, Grant Thornton LLP, and Chairman, Grant Thornton
International Ltd Board of Governors, Comment Letter Regarding Draft
Report and Draft Report Addendum 4 (June 27, 2008) available at
http://comments.treas.gov/_files/GTCommentlettertoACAPJune2008_FINAL.pdf.
\149\ See Record of Proceedings (June 3, 2008) (Written
Submission of Nell Minow, Editor and Co-Founder, The Corporate
Library, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Minow060308.pdf. But, cf. Wayne
Kolins, Director of Assurance, BDO Seidman LLP, Comment Letter
Regarding Draft Report and Draft Report Addendum 3-4, (June 27,
2008) available at http://comments.treas.gov/_files/ResponsetoAdvisoryCommittee0627final.PDF (advising the Committee to
keep in mind the fact that accounting firms operate differently than
public companies and that the PCAOB currently reviews information
that would concern independent board members); Paul Lee, Director,
Hermes Equity Ownership Services Limited, Comment Letter Regarding
Draft Report and Draft Report Addendum 3, (June 13, 2008), available
at http://comments.treas.gov/_files/ACAPresponse13Jun08.pdf.
\150\ See Record of Proceedings (June 3, 2008) (Written
Submission of Kenneth Nielsen Goldmann, Capital Markets and SEC
Practice Director, J.H. Cohn LLP, 4-5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Goldmann060308.pdf (noting that smaller firms do not have large
public company audit practices so the concept of public board
members may be difficult).
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Recommendation 4. Urge the SEC to amend Form 8-K disclosure
requirements to characterize appropriately and report every public
company auditor change and to require auditing firms to notify the
PCAOB of any premature engagement partner changes on public company
audit clients.
In 2006, over 1,300 public companies changed their auditor and from
2002 to 2006 over 6,500 public companies changed their auditor.\151\
Under current SEC regulations, a public company must disclose any
auditor change on Form 8-K.\152\ SEC regulations require disclosure of
any disagreements on financial disclosures during the preceding two
years prior to a resignation or termination and whether some issue,
such as the auditor's inability to rely on management's
representations, may put into question financial disclosure
reliability. SEC regulations also allow a public company to request
that the auditor respond with a letter addressed to the SEC stating
whether it agrees with the company's disclosure and, if it does not
agree, stating why.
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\151\ See Mark Grothe and Blaine Post, Speak No Evil, Glass
Lewis & Co Research 12 (May 21, 2007).
\152\ Form 8-K, available at http://www.sec.gov/about/forms/form8-k.pdf.
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While the SEC does attempt to uncover through its rules whether the
auditor change relates to disagreements over accounting and reporting
matters, the SEC rules do not require a public company to provide a
reason for the auditor's departure in the vast majority of cases. The
limitations of the existing disclosure requirements have resulted in
companies failing to disclose any reason for their auditor changes in
[[Page 44335]]
approximately 70% of the more than 1,300 auditor changes occurring in
2006.\153\
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\153\ See Mark Grothe and Blaine Post, Speak No Evil, Glass
Lewis & Co Research 12 (May 21, 2007).
---------------------------------------------------------------------------
The Committee considered testimony and commentary regarding the
lack of clear disclosure surrounding auditor changes. Testimony and
commentary viewed the lack of transparency surrounding auditor changes
as detrimental to investor confidence in financial reporting.\154\
Testimony and commentary suggested greater transparency regarding
auditor changes would compel audit committees to more closely evaluate
auditor selection decisions and lead to greater competition in the
audit market.\155\
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\154\ See, e.g., Andrew D. Bailey, Jr., Professor of
Accountancy-Emeritus, University of Illinois, and Senior Policy
Advisor, Grant Thornton LLP, Comment Letter Regarding Discussion
Outline 4 (Jan. 30, 2008), available at http://comments.treas.gov/--
files/
Baileycommentsontreasuryadvisorycommitteeoutlinefinalsubmission13008.
doc (recommending SEC and PCAOB disclosures of auditor changes to
enhance the growth of smaller auditing firms); Record of Proceedings
(Feb. 4, 2008) (Oral Remarks of Edward E. Nusbaum, Chief Executive
Officer, Grant Thornton LLP, and Chairman, Grant Thornton
International Board of Governors, 193-94), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-2-4-08.pdf (calling for expanded Form 8-K disclosure requirements as
``in the best interest of investors'').
\155\ See, e.g., Record of Proceedings (Feb. 4, 2008) (Written
Submission of Edward E. Nusbaum, Chief Executive Officer, Grant
Thornton LLP, and Chairman, Grant Thornton International Board of
Governors, 3), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Nusbaum020408.pdf (noting that the
Committee should examine ``[c]omprehensive disclosures about reasons
for auditor switches'').
---------------------------------------------------------------------------
The Committee believes that explicitly stating the reason for an
auditor change will assist investors in determining the quality of
financial reporting and subsequent investment decisions. The Committee
recommends that the SEC amend its Form 8-K disclosure on auditor
changes by providing for the following mechanism:\156\ The public
company would file within four days of an auditor change a Form 8-K
disclosing that an auditor had resigned, was terminated, or did not
seek reappointment; the company would appropriately characterize and
state in all cases in plain English the reason or reasons for the
change. The company would also disclose whether its audit committee
agreed with the disclosure it has provided. The company would also
provide the auditor with a copy of the disclosure and request a
response as to the accuracy of the disclosure. The company would
include any response as an exhibit to the company's Form 8-K filing, or
if received following the due date for the Form 8-K, in a subsequent
Form 8-K. As discussed above under current SEC regulations, the public
company can request that the auditor respond to the company's
statements in the Form 8-K regarding disagreements over accounting and
financial matters.
---------------------------------------------------------------------------
\156\ See Record of Proceedings (June 3, 2008) (Written
Submission of Kenneth Nielsen Goldmann, Capital Markets and SEC
Practice Director, J.H. Cohn LLP, 4), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Goldmann060308.pdf (recommending additional disclosure regarding the
relationship between the successor auditor and the company); Dennis
Johnson, CFA, Senior Portfolio Manager, CalPERS, Comment Letter
Regarding Draft Report and Draft Report Addendum 3, (June 13, 2008),
available at http://comments.treas.gov/_files/200806;--13ACAP--
addendum--commentltr.pdf (supporting the Recommendation); Record of
Proceedings (June 3, 2008) (Written Submission of Nell Minow, Editor
and Co-Founder, The Corporate Library, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Minow060308.pdf (stating that the Recommendation seems consistent
with Sarbanes-Oxley Act). But, cf. Ernst & Young LLP Comment Letter
Regarding Draft Report and Draft Report Addendum 27, (June 27,
2008), available at http://comments.treas.gov/_files/EYACAPCommentLetterFINAL.pdf (worrying that the results will be
``boilerplate disclosure that is of little benefit to investors
while an expansion of the list of objective criteria could be more
useful''); Wayne Kolins, Director of Assurance, BDO Seidman LLP,
Comment Letter Regarding Draft Report and Draft Report Addendum 4,
(June 27, 2008) available at http://comments.treas.gov/_files/ResponsetoAdvisoryCommittee0627final.PDF (stating ``a requirement
for auditors to respond as to the accuracy of disclosures relating
to subjective reasons is not feasible, since auditors have no basis
for agreeing or disagreeing with management regarding why they
dismissed the auditors'').
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In addition, the Committee recommends that auditing firms notify
the PCAOB of any engagement partner changes on public company audits if
made before the normal rotation period and, other than for retirement,
the reasons for those changes.\157\
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\157\ See, e.g., Record of Proceedings (Feb. 4, 2008) (Written
Submission of Paul G. Haaga Jr., Vice Chairman, Capital Research and
Management Company, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Haaga020408.pdf (calling
for public disclosure on audit partner changes other than for
rotation requirements); Record of Proceedings (Feb. 4, 2008) (Oral
Remarks of D. Paul Regan, President and Chairman, Hemming Morse
Inc., 194-195 (Feb. 4, 2008)), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-2-4-08.pdf (commenting
that ``if an audit partner is * * * rotated [early] off of an
issuer, there ought to be a disclosure, and there ought to be
communication from the partner who was rotated off early as to [the
reason for the early rotation] * * * because in many instances * * *
there [i]s controversy * * *''). But, cf. Ernst & Young LLP Comment
Letter Regarding Draft Report and Draft Report Addendum 27, (June
27, 2008), available at http://comments.treas.gov/_files/EYACAPCommentLetterFINAL.pdf (``Unscheduled changes in an engagement
partner are often due to circumstances that have no impact on the
relationship between the client and the Auditor''); Wayne Kolins,
Director of Assurance, BDO Seidman LLP, Comment Letter Regarding
Draft Report and Draft Report Addendum 12, (June 27, 2008) available
at http://comments.treas.gov/_files/ResponsetoAdvisoryCommittee0627final.PDF (stating that no benefit is
gained in requiring notification to the PCAOB when there is
premature changes in the engagement partner);
PricewaterhouseCoopers, Comment Letter Regarding Draft Report and
Draft Report Addendum 20, (June 30, 2008), available at http://comments.treas.gov/_files/PwCCommentLtrTreasCmtDraftandAddendum63008.pdf (noting that there
are many reasons for the engagement partner to change including
personal as well as professional and that the real issue is
``whether the firm has the appropriate quality control processes in
place'').
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Recommendation 5: Urge the PCAOB to undertake a standard-setting
initiative to consider improvements to the auditor's standard reporting
model. Further, urge that the PCAOB and the SEC clarify in the
auditor's report the auditor's role in detecting fraud under current
auditing standards and further that the PCAOB periodically review and
update these standards.
The auditor's report is the primary means by which the auditor
communicates to the users of financial statements regarding its audit
of financial statements. The standard auditor's report, not much
altered since the 1930s,\158\ identifies the financial statements
audited, the scope and nature of the audit, the general
responsibilities of the auditor and management, and the auditor's
opinion.\159\ In addition, for companies subject to Sarbanes-Oxley's
internal control requirements, the auditor's report includes an
attestation as to internal control over financial reporting.\160\ The
auditor's opinion on the financial statements states whether these
statements present fairly, in all material respects, a company's
financial position, results of operations, and cash flows in conformity
with generally accepted accounting principles.\161\
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\158\ For a historical analysis of the evolution of the
auditor's report, see George Cochrane, The Auditor's Report: Its
Evolution in the U.S.A., in Perspectives in Auditing 16 (D.R.
Carmichael and John J. Willingham 2d. ed. 1975).
\159\ Reports on Audited Financial Statements, Interim Auditing
Standard AU Section 508.08 (Pub. Company Accounting Oversight Bd.
2002).
\160\ An Audit of Internal Control Over Financial Reporting That
Is Integrated With An Audit of Financial Statements, Auditing
Standard No. 5, para. 85 (Pub. Company Accounting Oversight Bd.
2007).
\161\ Reports on Audited Financial Statements, Interim Auditing
Standard AU Section 508.07-.08 (Pub. Company Accounting Oversight
Bd. 2002).
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Many consider the auditor's reporting model a pass/fail model
because the auditor opines whether the statements are fairly presented
(pass) or not (fail).\162\ Since the SEC does not accept filings with
financial statements that
[[Page 44336]]
``fail,'' \163\ the vast number of audit reports issued rarely departs
from the exact standardized wording. Some believe this pass/fail model
with its standardized wording does not adequately reflect the amount of
auditor work and judgment.
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\162\ Public Company Accounting Oversight Board, Standing
Advisory Group Meeting Briefing Paper: Auditor's Reporting Model 3
(Feb. 16, 2005).
\163\ SEC Staff Accounting Bulletin, Topic 1E--Requirements for
Audited or Certified Financial Statements [Interpretive response to
question 2], (stating, in part, ``[a]ccordingly, auditor reports
filed with the SEC must include unqualified opinions'').
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Over thirty years ago, the audit ``expectations gap'' was coined
\164\ and has been a topic of controversy ever since. The expectations
gap has been defined as ``the difference between what the public and
users of financial statements perceive the role of an audit to be and
what the audit profession claim is expected of them during the conduct
of an audit.'' \165\ The Committee considered testimony and commentary
regarding this ``expectations gap'' between the public's expectations
regarding auditor responsibility for fraud detection and the auditor's
required and capable performance of fraud detection.\166\
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\164\ C.D. Liggio, The Expectation Gap: The Accountant's
Waterloo Vol. 3 No. 3 Journal of Contemporary Business 27 (1974).
\165\ Marianne Ojo, Eliminating the Audit Expectations Gap: Myth
or Reality?, (Feb. 2006), available at http://mpra.ub.uni-muenchen.de/232/1/MPRA_paper_232.pdf.
\166\ See, e.g, Andrew D. Bailey, Jr., Professor of
Accountancy--Emeritus, University of Illinois, and Senior Policy
Advisor, Grant Thornton LLP, Comment Letter Regarding Discussion
Outline 4 (Jan. 30, 2008), available at http://comments.treas.gov/_files/BAILEYCOMMENTSONTREASURYADVISORYCOMMITTEEOUTLINEFINALSUBMISSION13008.
doc (stating that ``[i]f the discovery of material errors and fraud
is not a major part of what the audit is about, it is not clear what
value-added service the auditor offers the investor and capital
markets''); Record of Proceedings (Feb. 4, 2008) (Questions for the
Record of Cynthia M. Fornelli, Executive Director, Center for Audit
Quality, 5 (Mar. 31, 2008)), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/QFRs-2-4-08.pdf (``While
auditors provide reasonable assurance that fraud material to the
financial statements will be detected, they cannot be expected to
provide absolute assurance that all material fraud will be found.
Cost-benefit constraints and the lack of governmental subpoena and
investigative powers, among other factors, make absolute assurance
impossible.''); Record of Proceedings (Feb. 4, 2008) (Written
Submission of Dennis Johnson, California Public Employees'
Retirement System, 5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Johnson020408.pdf
(stating that ``[o]f critical importance to investors is the
responsibility of auditors to detect fraud and improve the timely
communication of these frauds to investors and shareowners.'');
Serving Global Capital Markets and the Global Economy: A View From
the CEOs of the International Audit Networks 12 (Nov. 2006)
(``Nonetheless, there is a significant `expectations gap' between
what various stakeholders believe auditors should do in detecting
fraud, and what audit networks are actually capable of doing, at the
prices that companies or investors are willing to pay for
audits.'').
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Public investors have appropriately raised questions when large
frauds have gone undetected. Among the attributes that the public
expects of auditors is a clear acknowledgment of their responsibility
for the reliability of financial statements, particularly with respect
to the detection of fraud, notwithstanding the recognition that a
company's management and board have the primary role in preventing
fraud.\167\ Some say the public may believe that auditors will detect
more fraud than those in the profession believe can be reasonably
expected. Both beliefs may be unreasonable in some circumstances. And,
there are difficulties of detecting fraud, especially before it has
resulted in a material misstatement. However, even those involved
directly in the audit process on a daily basis from time to time have
differing views as to what the auditor should and should not have been
expected to discover.
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\167\ See, e.g., Sir David Tweedie, Challenges Facing the
Auditor: Professional Fouls and the Expectation Gap, Deloitte,
Haskins and Sells Lecture, University College, Cardiff 20 (``The
public appears to require (1) a burglar alarm system (protection
against fraud) * * * (2) a radar station (early warning of future
insolvency) * * * (3) a safety net (general re-assurance of
financial well-being) * * * (4) an independent auditor (safeguards
for auditor independence) * * * and (5) coherent communications
(understanding of audit reports)'').
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According to existing auditing standards and SEC rules, management
prepares and has the primary responsibility for the accuracy of
financial statements and for prevention and identification of fraud and
the auditor's role is to provide reasonable assurance that the
financial statements are free of material misstatement.\168\ These
concepts are embedded in the current auditing and audit reporting
standards that require that the auditor ``plan and perform the audit to
obtain reasonable assurance about whether the financial statements are
free of material misstatement whether caused by error or fraud.'' \169\
It is noteworthy that the current standard auditor's report does not
actually mention ``fraud'' and is silent about the auditor's
responsibility to find fraud.
---------------------------------------------------------------------------
\168\ See, e.g., Commission on Auditors' Responsibilities,
Report, Conclusions, and Recommendations xii (1978) (concluding
that, after having been established to investigate the existence of
such a gap, ``[a]fter considerable study of available evidence and
its own research......such a gap does exist''). For a more recent
article, see Dan L. Goldwasser, The Past and Future of Reasonable
Assurance, The CPA Journal (Nov. 2005), available at http://www.nysscpa.org/cpajournal/2005/1105/special_issue/essentials/p28.htm.
\169\ Consideration of Fraud in a Financial Statement, Interim
Auditing Standard AU 316 (Pub. Company Accounting Oversight Bd.
2002).
---------------------------------------------------------------------------
Clarification of the expectations gap and confusion about auditor
responsibility to detect fraud are not the only criticisms of the
standard auditor's report. Over the years there have been numerous
recommendations that the standard report be improved. In 1978, the
Commission on Auditors' Responsibilities (Cohen Commission) made a
simple observation: ``For the largest corporations in the country, an
audit may involve scores of auditors and tens of thousands of hours of
work for which the client may pay millions of dollars. Nevertheless,
the auditor's standard report compresses that considerable expenditure
of skilled effort into a relatively few words and paragraphs.'' \170\
The Cohen Commission then called for an expansion of the auditor's
report to include a report not merely on the financial statements, but
covering the entire audit function.\171\ The Cohen Commission reasoned
that this new more comprehensive information would benefit users, but
also clarify the role and, consequently, the legal standing of the
auditor in relation to the audit.\172\
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\170\ Commission on Auditors' Responsibilities, Report,
Conclusions, and Recommendations 71 (1978).
\171\ Commission on Auditors' Responsibilities, Report,
Conclusions, and Recommendations 75 (1978).
\172\ Commission on Auditors' Responsibilities, Report,
Conclusions, and Recommendations 75-76 (1978).
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In 1987, the National Commission on Fraudulent Financial Reporting
(Treadway Commission) recommended that the standard auditor's report
more clearly identify the auditor's responsibilities, the degree to
which users can rely on the audit, and the limitations on the audit
process.\173\ The Treadway Commission aimed to reaffirm that management
has ``primary responsibility for financial statements'' and to caution
users of financial statements from placing more than ``reasonable''
assurance on the audit process.
---------------------------------------------------------------------------
\173\ National Commission on Fraudulent Financial Report, Report
of the National Commission on Fraudulent Financial Reporting (Oct.
1987).
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More recently, the American Assembly called for differing
attestation standards for different parts of the financial statements,
depending on the amount of uncertainty and judgment required in making
certain determinations.\174\ In addition, a February 2008 CFA Institute
survey indicated that 80% of its member respondents believe that the
auditor's report should provide specific information about how the
auditor
[[Page 44337]]
reached its opinion.\175\ A majority of survey respondents thought it
was very important to have the auditors identify key risk areas,
significant changes in risk exposures, and amounts either involving a
high degree of uncertainty in measurement and significant assumptions
or requiring a higher level of professional judgment.\176\
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\174\ American Assembly, The Future of the Accounting Profession
12-13 (Nov. 13-15, 2003); American Assembly, The Future of the
Accounting Profession: Auditor Concentration 21 (May 23, 2005).
\175\ CFA Institute, February 2008 Monthly Question Results
(Feb. 2008), available at http://www.cfainstitute.org/memresources/monthlyquestion/2008/february.html.
\176\ CFA Institute, February 2008 Monthly Question Results
(Feb. 2008), available at http://www.cfainstitute.org/memresources/monthlyquestion/2008/february.html.
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In 2005, the PCAOB's Standing Advisory Group (SAG), which advises
the PCAOB on the establishment of auditing and related professional
practice standards, considered whether the auditor's report should
include more information relating to the auditor's judgments regarding
financial reporting quality.\177\ The SAG also considered whether
required auditor communications to audit committees, such as the
auditor's judgments about accounting principles \178\ and critical
accounting policies and practices,\179\ should be incorporated into the
auditor's report.\180\ The PCAOB has not yet taken up a standard-
setting initiative regarding the auditor's report.
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\177\ Public Company Accounting Oversight Board, Standing
Advisory Group Meeting: Auditor's Reporting Model (Feb. 16, 2005).
\178\ For this requirement, see Communications With Audit
Committees, Interim Auditing Standard AU Section 380.11 (Public
Company Accounting Oversight Bd. 2002).
\179\ For this requirement, see Sarbanes-Oxley Act, 15 U.S.C.
Sec. 78j-1 (2002).
\180\ Public Company Accounting Oversight Board, Standing
Advisory Group Meeting: Auditor's Reporting Model 4-5 (Feb. 16,
2005).
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Foreign jurisdictions are also currently considering changes to
their auditor's reports. For instance, the European Commission under
the Eighth Directive is authorized to develop its own ``European Audit
Report'' or adopt the International Federation of Accountants'
International Auditing and Assurance Standards Board's recently revised
auditor's report standard.\181\ In December 2007, the Audit Practices
Board, a part of the United Kingdom's Financial Reporting Council,
issued a Discussion Paper seeking comment on potentially altering the
auditor's report.\182\ Currently in Germany, public companies are
generally required to issue a long-form auditor's report, discussing
matters such as the company's economic position and trend of business
operations and the nature and scope of the auditor's procedures. The
Committee is cognizant that this debate over such disclosures is
unfolding in a litigation environment different from that in the United
States.
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\181\ Directive 2006/43/EC of the European Parliament and of the
Council Art. 28 (May 17, 2006); Auditing Practices Board, Discussion
Paper--The Auditor's Report: A Time For Change? 6 (Dec. 2007).
\182\ Auditing Practices Board, Discussion Paper--The Auditor's
Report: A Time For Change? (Dec. 2007).
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This Committee has also heard testimony regarding expanding the
auditor's report.\183\ One witness noted that some institutional
investors believe an expanded auditor's report would enhance investor
confidence in financial reporting and recommended exploring a more
``narrative'' report in areas, such as ``estimates, judgments,
sufficiency of evidence and uncertainties.'' \184\
---------------------------------------------------------------------------
\183\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Written
Submission of Dennis M. Nally, Chairman and Senior Partner,
PricewaterhouseCoopers LLP, 7), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Nally120307.pdf
(supporting the Committee's considering whether to change the
auditor's report's content given single financial reporting
standards, more cohesive global auditing standards, and trends, like
fair value measurement); Record of Proceedings (Dec. 3, 2007) (Oral
Remarks of Ashwinpaul C. Sondhi, President, A. C. Sondhi &
Associates, LLC, 255-57), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-12-3-07.pdf; Record of
Proceedings (Dec. 3, 2007) (Oral Remarks of James S. Turley,
Chairman and Chief Executive Officer, Ernst & Young LLP, 253-54),
available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-12-3-07.pdf.
\184\ Record of Proceedings (Feb. 4, 2008) (Written Submission
of Richard Fleck, Global Relationship Partner, Herbert Smith LLP,
17, 21), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Fleck02042008.pdf.
---------------------------------------------------------------------------
The Committee notes that the increasing complexity of global
business operations are compelling a growing use of judgments and
estimates, including those related to fair value measurements, and also
contributing to greater complexity in financial reporting. The
Committee believes this complexity supports improving the content of
the auditor's report beyond the current pass/fail model to include a
more relevant discussion about the audit of the financial statements.
While there is not yet agreement as to precisely what additional
information is sought by and would be useful to investors and other
users of financial statements, the Committee concludes that an improved
auditor's report would likely lead to more relevant information for
users of financial statements and would clarify the role of the auditor
in the financial statement audit.
The Committee therefore recommends that the PCAOB address these
issues, both long-debated and increasingly important given the use of
judgments and estimates, by undertaking a standard-setting initiative
to consider improvements to the auditor's reporting model.\185\ With
regards to this initiative, the PCAOB should consult with investors,
other financial statement users, auditing firms, public companies,
academics, other market participants, and other state, federal, and
foreign regulators. In view of the desirability of improving the
quality of financial reporting and auditing on a global basis, the
PCAOB should also consider the developments in foreign jurisdictions
that improve the quality and content of the auditor's report and should
consult with international regulatory bodies as appropriate. The PCAOB
should also take cognizance of the proposal's potential legal
ramifications, if any, to auditors.\186\
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\185\ See, e.g., Deloitte LLP, Comment Letter Regarding Draft
Report and Draft Report Addendum 20 (June 27, 2008), available at
http://comments.treas.gov/_files/DeloitteLLPCommentLetter.pdf
(recommending that the Committee suggest to the PCAOB to include the
International Auditing and Assurance Standards Board (IAASB) and the
Auditing Standards Board (ASB), who are evaluating the auditor's
report, in undertaking this initiative); Roderick Hills, Chairman,
Center for Strategic and International Studies, Hills Program on
Governance, Comment Letter Regarding Discussion Outline 3 (June 5,
2008), available at http://comments.treas.gov/_files/commentsregardingdraftreportofadvisorycomm.pdf (agreeing that a new
auditor's report standard is needed to allow auditors to offer a
range of attestations to reflect the range of values possible);
Dennis Johnson, CFA, Senior Portfolio Manager, CalPERS, Comment
Letter Regarding Draft Report and Draft Report Addendum 1-2, (June
13, 2008), available at http://comments.treas.gov/_files/200806--
13ACAP--addendum--commentltr.pdf (supporting the Recommendation).
But, cf., Arnold Hanish, Financial Executives International, Chair,
Committee on Corporate Reporting, Comment Letter Regarding Draft
Report and Draft Report Addendum 4-5 (July 3, 2008), available at
http://comments.treas.gov/_files/FEICCRTreasuryACAPCommentLetterFiled73080.pdf (suggesting that the
Recommendation ``can add even more stress to an already stressed
system'' and that changes can cause confusion); Lee Seidler, CPA,
Comment Letter Regarding Draft Report and Draft Report Addendum
(June 27, 2008), available at http://comments.treas.gov/index.cfm?FuseAction=Home.View&Topic_id=9&FellowType_id=1&CurrentPage=1 (stating that expansion always includes
exculpatory language that is not useful).
\186\ See, e.g., Deloitte LLP, Comment Letter Regarding Draft
Report and Draft Report Addendum 20 (June 27, 2008), available at
http://comments.treas.gov/_files/DeloitteLLPCommentLetter.pdf
(``[T]he different liability systems where these reports exist must
be taken into account when assessing the standard language included
in the auditor's report in the U.S. and the U.S. litigation
system''); Cynthia Fornelli, Executive Director, Center for Audit
Quality, Comment Letter Regarding Draft Report and Draft Report
Addendum 22, (June 27, 2008), available at http://comments.treas.gov/_files/CAQCommentletter62708FINAL.pdf
(suggesting the Committee ``acknowledge that the risk of
catastrophic liability must inform any potential changes to the
auditor's report''); PricewaterhouseCoopers, Comment Letter
Regarding Draft Report and Draft Report Addendum 11, (June 30,
2008), available at http://comments.treas.gov/_files/PwCCommentLtrTreasCmtDraftandAddendum63008.pdf (acknowledging that
litigation issues must be taken into account).
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[[Page 44338]]
Commentary has also suggested that auditors must more effectively
communicate their responsibility regarding fraud detection with
investors and the capital markets. The Committee agrees with this
suggestion. Accordingly, the Committee believes that the auditor's
report should articulate clearly to investors the auditor's role and
limitations in detecting fraud.\187\ The Committee believes that
expressly communicating to investors, other financial statement users,
and the public the role of auditors in finding and reporting fraud
would help narrow the ``expectations gap.''
---------------------------------------------------------------------------
\187\ See, e.g., Joseph Carcello, Chair, AAA Task Force to
Monitor the Activities of the Treasury ACAP Ernst & Young Professor
and Director of Research--Corporate Governance Center University of
Tennessee, Jean C. Bedard Timothy B. Harbert Professor of
Accountancy Bentley College, Dana R. Hermanson Dinos Eminent Scholar
Chair of Private Enterprise and Professor of Accounting Kennesaw
State University, Comment Letter Regarding Draft Report and Draft
Report Addendum 6, (May 15, 2008), available at http://comments.treas.gov/&_files/ACAPCommentLetterMay152008.pdf (urging
the PCAOB to evaluate the efficacy of SAS No. 99); Cynthia Fornelli,
Executive Director, Center for Audit Quality, Comment Letter
Regarding Draft Report and Draft Report Addendum 26, (June 27,
2008), available at http://comments.treas.gov/_files/CAQCommentletter62708FINAL.pdf (supporting the Recommendation);
Frank Frankowski, CFO, Airborne Systems, Comment Letter Regarding
Draft Report and Draft Report Addendum 2, (June 2, 2008), available
at http://comments.treas.gov/_files/FrankowskiLetter.pdf; Record of
Proceedings (June 3, 2008) (Written Submission of Dan Guy, Former
Vice President, Professional Standards and Services, American
Institute of Certified Public Accountants, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Guy060308.pdf (recommending the addition of illegal acts to the
Recommendation).
---------------------------------------------------------------------------
In addition, the Committee recommends that the PCAOB and the SEC
clarify in the auditor's report the auditor's role and limitations in
detecting fraud under current auditing standards. In addition, the
Committee recommends, in light of this continuing ``expectations gap,''
that the PCAOB review the auditing standards governing fraud detection
and fraud reporting. Specifically, the Committee recommends that the
PCAOB periodically review and update these standards.\188\
---------------------------------------------------------------------------
\188\ Donald Chapin, Comment Letter Regarding Draft Report and
Draft Report Addendum 1, (June 9, 2008), available at http://comments.treas.gov/_files/TreasuryAdvisoryCommittee.doc (supporting
the Recommendation).
---------------------------------------------------------------------------
Recommendation 6: Urge the PCAOB to undertake a standard-setting
initiative to consider mandating the engagement partner's signature on
the auditor's report.
SEC regulations require that the auditor's report be signed.\189\
Under current requirements, the auditor's report signature block shows
the auditing firm's name, not the engagement partner's. In 2005, the
PCAOB's SAG considered whether the audit partner and a concurring
partner should sign the auditor's report in their own names.\190\ The
Committee has received testimony and commentary regarding the benefits
and complexities of engagement partner signatures.\191\ The Committee
has also discussed and debated the merits of the senior engagement
partner signing the auditor's report.\192\ Advocates believe that such
signatures will foster greater accountability of the individuals
signing the auditor's report, will enhance transparency, and may
improve audit quality, and they also note the signature will create no
additional liability concerns for the engagement partner.\193\ These
supporters analogize the signatures to the chief executive officer and
chief financial officer certifications under Section 302 of Sarbanes-
Oxley and directors' signatures on public company annual reports. The
signature will also enhance the status of the engagement partner,
putting the partner on the same level as the chief executive officer
and chief financial officer. Opponents of such signatures argue that
the auditing firm operates as a team and takes responsibility for the
audit, but not individual partners. They also argue that no improvement
in audit quality will result from such a signature.\194\
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\189\ SEC Regulation S-X, Rule 2-02a.
\190\ Public Company Accounting Oversight Board, Standing
Advisory Group Meeting: Auditor's Reporting Model 7-8 (Feb. 16,
2005).
\191\ See, e.g., Record of Proceedings (Feb. 4, 2008) (Written
Submission of Paul G. Haaga, Jr., Vice Chairman, Capital Research
and Management Company, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Haaga020408.pdf
(stating that signatures could improve audit quality and enhance
accountability).
\192\ See, e.g., Record of Proceedings (Mar. 13, 2008) (Oral
Remarks of Donald T. Nicolaisen, Board Member, Morgan Stanley, 228-
230) (stating his belief that engagement partner should sign the
auditor's report); Record of Proceedings (Mar. 13, 2008) (Oral
Remarks of Mary Bush, Board Member, Discover Financial Services,
231) (endorsing the engagement partner signature on the auditor's
report).
\193\ See, e.g., Donald Chapin, Comment Letter Regarding Draft
Report and Draft Report Addendum 2, (June 9, 2008), available at
http://comments.treas.gov/_files/TreasuryAdvisoryCommittee.doc
(suggesting that if the engagement partner and concurring partner
sign the auditor's report separately, some type of liability
limitations should be received if the firm is not complicit in the
audit failure); Dennis Johnson, CFA, Senior Portfolio Manager,
CalPERS, Comment Letter Regarding Draft Report and Draft Report
Addendum 2, (June 13, 2008), available at http://comments.treas.gov/_files/200806--13ACAP--addendum--commentltr.pdf (supporting the
Recommendation); Paul Lee, Director, Hermes Equity Ownership
Services Limited, Comment Letter Regarding Draft Report and Draft
Report Addendum 4, (June 13, 2008), available at http://comments.treas.gov/_files/ACAPresponse13Jun08.pdf (noting that the
signatures would increase accountability and professionalism).
\194\ See, e.g., Deloitte LLP, Comment Letter Regarding Draft
Report and Draft Report Addendum 21 (June 27, 2008), available at
http://comments.treas.gov/_files/DeloitteLLPCommentLetter.pdf
(arguing that regulators and others can already identify those
involved in audits); Arnold Hanish, Financial Executives
International, Chair, Committee on Corporate Reporting, Comment
Letter Regarding Draft Report and Draft Report Addendum 5 (July 3,
2008), available at http://comments.treas.gov/_files/FEICCRTreasuryACAPCommentLetterFiled73080.pdf (stating that partners
could become excessively conservative and seek multiple opinions
from the national office before signing their name); Wayne Kolins,
Director of Assurance, BDO Seidman LLP, Comment Letter Regarding
Draft Report and Draft Report Addendum 14-15, (June 27, 2008)
available at http://comments.treas.gov/_files/ResponsetoAdvisoryCommittee0627final.PDF (noting that an audit is a
team effort and focusing on one partner may reduce other engagement
staff's sense of responsibility); Mayer Hoffman McCann P.C., Comment
Letter Regarding Draft Report and Draft Report Addendum 3, (June 17,
2008), available at http://comments.treas.gov/_files/MayerHoffmanMcCannCommentLetter.pdf (stating that the Recommendation
``may be counterproductive since large audits require many partners
in various parts of the country or world''); PricewaterhouseCoopers,
Comment Letter Regarding Draft Report and Draft Report Addendum 11-
12, (June 30, 2008), available at http://comments.treas.gov/_files/PwCCommentLtrTreasCmtDraftandAddendum63008.pdf (discerning no clear
benefit from the Recommendation).
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The Committee notes that engagement partner signatures are required
in other jurisdictions. The European Union's (EU) Eighth Directive
requires that the engagement partner sign the auditor's report.\195\
Even prior to the Eighth Directive, several European countries,
including France, Germany, and Luxembourg, required engagement partner
signatures for a number of years.\196\
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\195\ Directive 2006/43/EC of the European Parliament and of the
Council Art. 28 (May 17, 2006).
\196\ The Institute of Chartered Accountants in England and
Wales, Shareholder Involvement--Identifying the Audit Partner (2005)
(noting that Germany, France, and Luxembourg currently require audit
partner signatures and European Member states must adopt such a
requirement under Article 28 of the Directive 2006/43/EC of the
European Parliament and of the Council of 17 May 2006 on statutory
audits of annual accounts and consolidated accounts).
---------------------------------------------------------------------------
The Committee notes that in Chapter VII of this Report, the
Committee is recommending disclosure of the name(s) of the senior audit
partner(s) staffed on the engagement in the proxy statement to increase
transparency and affirm the accountability of the auditor.
The Committee believes that the engagement partner's signature on
the
[[Page 44339]]
auditor's report would increase transparency and accountability.
Therefore, the Committee recommends that the PCAOB undertake a
standard-setting initiative to consider mandating the engagement
partner's signature on the auditor's report. The Committee notes the
signature requirement should not impose on any signing partner any
duties, obligations or liability that are greater than the duties,
obligations and liability imposed on such person as a member of an
auditing firm.\197\
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\197\ This language is similar to safe harbor language the SEC
promulgated in its rulemaking pursuant to Sarbanes-Oxley's Section
407 for audit committee financial experts. See, SEC, Final Rule:
Disclosure Required by Sections 406 and 407 of the Sarbanes-Oxley
Act of 2002, Release No. 33-8177 (Jan. 23, 2003).
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Recommendation 7. Urge the PCAOB to require that, beginning in
2010, larger auditing firms produce a public annual report
incorporating (a) information required by the EU's Eighth Directive,
Article 40 Transparency Report deemed appropriate by the PCAOB, and (b)
such key indicators of audit quality and effectiveness as determined by
the PCAOB in accordance with Recommendation 3 in Chapter VI of this
Report. Further, encourage the PCAOB to require that, beginning in
2011, the larger auditing firms file with the PCAOB on a confidential
basis audited financial statements.
The Committee considered testimony and commentary regarding the
transparency of auditing firms.\198\ The Committee has reviewed and
considered a range of transparency reporting options, including the
PCAOB's May 2006 proposal, now finalized, requiring annual and periodic
reporting pursuant to the mandate under Sarbanes-Oxley's Section
102(d).\199\ This rule requires annual reporting by auditing firms on
such items as a public company audit client list and the percentage of
the firm's total fees attributable to public company audit clients for
each of the following categories of services: audit services, other
accounting services, tax services, and non-audit services. The PCAOB
rule also requires firms to file a ``special'' report, triggered by
such events as the initiation of certain criminal or civil governmental
proceedings against the firm or its personnel; a new relationship with
a previously disciplined person or entity; or the firm becoming subject
to bankruptcy or similar proceedings.
---------------------------------------------------------------------------
\198\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Written
Submission of James S. Turley, Chairman and Chief Executive Officer,
Ernst & Young LLP, 10), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Turley120307.pdf; Record
of Proceedings (Feb. 4, 2008) (Written Submission of Dennis Johnson,
Senior Portfolio Manager, Corporate Governance, California Public
Employees' Retirement System, 5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Johnson020408.pdf.
\199\ See PCAOB, Proposed Rules on Periodic Reporting by
Registered Public Accounting Firms, available at http://www.pcaobus.org/rules/docket_019/2006-05-23_release_no._2006-004.pdf.
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The Committee has also considered the EU's Eighth Directive,
Article 40 Transparency Report,\200\ which requires that public company
auditors post on their websites annual reports including the following
information: legal and network structure and ownership description;
governance description; most recent quality assurance review; public
company audit client list; independence practices and confirmation of
independence compliance review; continuing education policy; financial
information, including audit fees, tax advisory fees, consulting fees;
and partner remuneration policies. The Article 40 Transparency Report
also requires a description of the auditing firm's quality control
system and a statement by firm management on its effectiveness.
Auditing firms and investors have expressed support for requiring U.S.
auditing firms to publish reports similar to the Article 40
Transparency Report.\201\
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\200\ Directive 2006/43/EC of the European Parliament and of the
Council Art. 40 (May 17, 2006), available at http://eur-lex.europa.eu/LexUriServ/LexUriServ.do?uri=OJ:L:2006:157:0087:0107:EN:PDF.
\201\ See, e.g., Record of Proceedings (Feb. 4, 2008) (Written
Submission of Paul G. Haaga, Jr., Vice Chairman, Capital Research
and Management Company, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Haaga020408.pdf
(recommending auditing firm disclosure of quality control policies
and procedures); Record of Proceedings (Feb. 4, 2008) (Written
Submission of Edward E. Nusbaum, Chief Executive Officer, Grant
Thornton LLP, 6), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Nusbaum020408.pdf
(supporting an annual transparency report for U.S. auditing firms);
Record of Proceedings (Written Submission of James S. Turley,
Chairman and Chief Executive Officer, Ernst & Young LLP, 10),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Turley120307.pdf (suggesting the PCAOB require
auditing firms to publish transparency reports like the European
Union's Article 40 Transparency Report).
---------------------------------------------------------------------------
The Committee notes that Recommendation 3 in Chapter VI of this
Report recommends that, if feasible, the PCAOB develop audit quality
indicators and auditing firms publish these indicators. The Committee
believes this information could improve audit quality by enhancing the
transparency of auditing firms and notes that some foreign affiliates
of U.S. auditing firms provide such indicators in public reports issued
in other jurisdictions.\202\
---------------------------------------------------------------------------
\202\ See, e.g., Record of Proceedings (Feb. 4, 2008) (Written
Submission of Dennis Johnson, Senior Portfolio Manager, Corporate
Governance, California Public Employees' Retirement System, 5),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Johnson020408.pdf (recommending auditing firm
disclosure of key performance indicators, such as ``percent of
training dollars spent on staff compared to the fees received for
the audit, average experience of staff, partner time allocated to
each audit'').
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Furthermore, for several years auditing firms in the United Kingdom
have published annual reports containing audited financial statements
pursuant to limited liability partnership disclosure requirements as
well as a discussion of those statements, a statement on corporate
governance, performance metrics, and other useful information. In the
United States, auditing firms typically do not prepare audited
financial statements. Some witnesses have called for the public
disclosure of audited financial statements,\203\ whereas one auditing
firm representative questioned the usefulness of disclosing financial
statements of the smaller auditing firms.\204\ The Committee received
[[Page 44340]]
testimony and commentary opposed to the public release of financial
statements.\205\
---------------------------------------------------------------------------
\203\ See, e.g., Record of Proceedings (June 3, 2008) (Written
Submission of John Biggs, Audit Committee Chair, Boeing, Inc.,
former Chief Executive Officer and Chairman, TIAA-CREF), available
at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Biggs060308.pdf (stating that audited financial statements
would be useful for audit committees); James D. Cox, Duke
University, and Lawrence A. Cunningham, George Washington
University, Comment Letter Regarding Draft Report and Draft Report
Addendum 1-2, (July 4, 2008), available at http://comments.treas.gov/_files/JointCommentLetteronFACAPJuly2008.doc
(supporting financial statement disclosure for assessing audit
quality and independence); Record of Proceedings (Feb. 4, 2008)
(Written Submission of Paul G. Haaga, Jr., Vice Chairman, Capital
Research and Management Company, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Haaga020408.pdf (calling for auditing firm disclosure of audited
financial statements); Dennis Johnson, CFA, Senior Portfolio
Manager, CalPERS, Comment Letter Regarding Draft Report and Draft
Report Addendum 3, (June 13, 2008), available at http://comments.treas.gov/_files/200806--13ACAP--addendum--commentltr.pdf
(recommending that all audited financial statements be publicly
available on the PCAOB's website).
\204\ Record of Proceedings (Feb. 4, 2008) (Questions for the
Record of Neal Spencer, Managing Partner, BKD LLP, 38-39), available
at http://www.treas.gov/offices/domestic-finance/acap/agendas/QFRs-2-4-08.pdf (analogizing the auditing firm to a vendor and noting
that the profitability or financial strength of vendors ``has
little, if any, relevance other than perhaps related to concerns
about their ability to financially support their continued
existence'' and noting that the profitability or financial condition
of an auditing firm is not directly related to audit quality; and
noting that the ``most relevant financial information for users'' of
smaller auditing firms is insurance-related information and noting
that larger auditing firms with limited commercial insurance
coverage may need to disclose different financial information).
\205\ Deloitte LLP, Comment Letter Regarding Draft Report and
Draft Report Addendum 20 (June 27, 2008), available at http://comments.treas.gov/_files/DeloitteLLPCommentLetter.pdf (opposing
disclosure of financial statements due to increased litigation risk
and the impact on concentration); Record of Proceedings (June 3,
2008) (Written Submission of Charles W. Gerdts, III, General
Counsel, PricewaterhouseCoopers, LLP, 12), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Bedard060308.pdf (suggesting that audited financial statements would
not help audit quality, may harm competition, and could increase
settlement awards); Record of Proceedings (June 3, 2008) (Written
Submission of Kenneth Nielsen Goldmann, Capital Markets and SEC
Practice Director, J.H. Cohn LLP, 5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Goldmann060308.pdf (stating that smaller firms would leave the
public company audit market due to the fact that ``they would view
such disclosure as placing them in a negative competitive position
with respect to larger audit firms, current and potential clients,
and potential plaintiffs''); David McDonnell, Chief Executive
Officer, Grant Thornton International Ltd, and Edward E. Nusbaum,
Chief Executive Officer, Grant Thornton LLP, and Chairman, Grant
Thornton International Ltd Board of Governors, Comment Letter
Regarding Draft Report and Draft Report Addendum 5 (June 27, 2008),
available at http://comments.treas.gov/_files/GTCommentlettertoACAPJune2008_FINAL.pdf (noting the lack of
evidence that audit quality would improve but states that the
Recommendation would have an adverse affect on concentration and
smaller firms); Record of Proceedings (June 3, 2008) (Written
Submission of Michael R. Young, Partner, Willkie Farr & Gallagher
LLP, 4), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Young060308.pdf (noting that the
Recommendation may result in larger settlement demands).
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The Committee recommends that the PCAOB require that, beginning in
2010, larger auditing firms (those with 100 or more public company
audit clients that the PCAOB inspects annually) produce a public annual
report incorporating (a) information required by the Article 40
Transparency Report deemed appropriate by the PCAOB in consultation
with investors, other financial statement users, auditing firms, public
companies, academics, and other market participants, and (b) such key
indicators of audit quality and effectiveness as determined by the
PCAOB in accordance with Recommendation 3 in Chapter VII of this
Report. These disclosure requirements should supplement any rules
approved by the SEC as a result of the PCAOB's May 2006 reporting
proposal.
Further, the Committee also recommends that the PCAOB require that,
beginning in 2011, the larger auditing firms file with the PCAOB on a
confidential basis audited financial statements prepared in accordance
with generally accepted accounting principles or international
financial reporting standards.
The Committee also recommends that the PCAOB determine which of the
requirements included above should be imposed on smaller auditing firms
(those with fewer than 100 public company audit clients), taking into
account these firms' size and resources.
VI. Concentration and Competition
The Committee analyzed public company audit market concentration
and competition. In its work the Committee focused on concentration and
competition in the context of their impact on audit quality and
effectiveness. In turn, consideration of the sustainability of the
auditing profession was also subject to examination in the context of
audit quality and effectiveness. The recommendations set out below
reflect this focus.
During the course of its deliberations, the Committee received
testimony and commentary from the Government Accountability Office
(GAO), the Public Company Accounting Oversight Board (PCAOB),
academics, auditing firms, investors, and others regarding audit market
concentration and competition.
In January 2008, the GAO issued Audits of Public Companies:
Continued Concentration in Audit Market for Large Public Companies Does
Not Call for Immediate Action,\206\ updating its 2003 report on audit
market concentration.\207\ The GAO concluded that the four largest
auditing firms continue to dominate the large public company audit
market. In 2006, the four largest auditing firms audited 98% of the
1500 largest public companies with annual revenues over $1 billion and
92% of public companies with annual revenues between $500 million and
$1 billion. However, concentration in the small and mid-size public
company audit market has eased during the past five years. The largest
firms' share in auditing small public companies with annual revenues
under $100 million has declined from 44% in 2002 to 22% in 2006 and in
auditing mid-size public companies with annual revenue between $100
million and $500 million from 90% in 2002 to 71% in 2006.\208\ See
Figure 1.
---------------------------------------------------------------------------
\206\ U.S. Government Accountability Office, Audits of Public
Companies: Continued Concentration in Audit Market for Large Public
Companies Does Not Call for Immediate Action, GAO-08-163 (Jan. 2008)
[hereinafter 2008 GAO Report].
\207\ GAO, Public Accounting Firms: Mandated Study on
Consolidation and Competition, GAO-03-864 (July 2003) (finding that
``although audits for large public companies were highly
concentrated among the largest accounting firms, the market for
audit services appeared competitive according to various
indicators'').
\208\ 2008 GAO Report 19. The GAO also found that the largest
firms collected 94% of all audit fees paid by public companies in
2006, slightly less than the 96% they collected in 2002. 2008 GAO
Report 16.
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[[Page 44341]]
[GRAPHIC] [TIFF OMITTED] TN30JY08.042
The Committee considered the testimony of several witnesses
regarding the reasons for the continued concentration in the large
public company audit market. Auditing firms, public companies, market
participants, academics, investors and others reasoned that large
public companies with operations in multiple countries need auditing
firms with global resources and technical and industry expertise to
deal with an increasingly complex business and financial reporting
environment.\209\ These needs limit auditor choice to only the largest
auditing firms for many large public companies. The Committee heard
from witnesses who also described barriers to the growth of smaller
auditing firms, including the behavior of underwriters and other
capital market participants.\210\
---------------------------------------------------------------------------
\209\ See, e.g., 2008 GAO Report 21 (surveyed companies most
frequently cited size and complexity of their operations (92%), the
auditor's technical capability with accounting principles and
auditing standards (80%), and the need for industry specialization
or expertise (67%)); Record of Proceedings (Dec. 3, 2007) (Written
Submission of Wayne Kolins, National Director of Assurance and
Chairman, BDO Seidman LLP, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Kolins120307.pdf;
Record of Proceedings (Feb. 4, 2008) (Written Submission of Neal D.
Spencer, Managing Partner, BKD, LLP, 1-4), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Spencer020408.pdf.
\210\ Record of Proceedings (Feb. 4, 2008) (Oral Remarks of Brad
Koenig, Former Managing Director and Head of Global Technology
Investment Banking, Goldman Sachs, 219-220), available at http://www.treas.gov/offices/domestic-finance/acap/Koenig020408.pdf
(describing underwriters' views of auditing firms other than the
largest four auditing firms).
---------------------------------------------------------------------------
In analyzing these data on concentration and limited auditor choice
in the large public company audit market, the Committee focused on the
potential negative impact of concentration on audit quality. Some have
suggested the lack of competition may not provide sufficient incentive
for the dominant auditing firms to deliver high quality and innovative
audit services.\211\ Notwithstanding the increasing number of public
company financial restatements,\212\ the Committee heard from several
witnesses that audit quality had improved.\213\ For example, the GAO
observed that market participants and public company officials had
noted improvement in recent years in audit quality, including auditing
firm staff's technical expertise, responsiveness to client needs, and
ability to identify material financial reporting matters.\214\ Much of
the improvement was credited to the Sarbanes-Oxley Act of 2002
(Sarbanes-Oxley), which enhanced auditor independence, replaced the
self-regulation of the auditing profession with the PCAOB, mandated
evaluation and disclosure of the effectiveness of internal controls
over financial reporting,\215\ and strengthened audit committee
membership, independence, and responsibilities.
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\211\ 2008 GAO Report 31-32.
\212\ See, e.g., Susan Scholz, The Changing Nature and
Consequences of Public Company Financial Restatements 1997-2006
(Apr. 2008).
\213\ 2008 GAO Report 5; Pub. Company Accounting Oversight Bd.,
Report on the PCAOB's 2004, 2005, and 2006 Inspections of Domestic
Triennially Inspected Firms, PCAOB Rel. No. 2007-010 (Oct. 22,
2007).
\214\ Record of Proceedings (Dec. 3, 2007) (Questions for the
Record of Jeanette M. Franzel, Director, Financial Management and
Assurance Team, U.S. Government Accountability Office, 2 (Jan. 30,
2008)), available at http://www.treas.gov/offices/domestic-finance/acap/QFRs-12-3-2007.pdf (observing that the market believes the
``bar had been raised'' on audit quality). See also Center for Audit
Quality, Report on the Survey of Audit Committee Members (Mar. 2008)
(concluding that: 17% of surveyed audit committee members view audit
quality as good, 53% as very good, 25% as excellent, while 82% say
overall quality has improved somewhat/significantly over the past
several years).
\215\ 2008 GAO Report 32.
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Although industry concentration can lead to increased prices, the
Committee notes that the GAO concluded that higher audit market
concentration has not been associated with higher fees. Public
companies, auditing firms, and other market participants believe the
considerable increase in audit fees in recent years is due not to
market power of a concentrated industry, but to the increased
requirements under Sarbanes-Oxley, the complexity of accounting and
financial reporting standards, the need to hire and retain qualified
audit staff, and the independence requirements (which have led to the
possible re-pricing of audits to their unbundled market price).\216\
The Committee also considered the impact of the possible loss of one of
the four largest accounting firms in light of the high degree of
concentration of public company auditing, and especially large public
company auditing, in those firms. The GAO noted the possibility of this
loss due to issues arising out of firm conduct, such as civil
litigation, federal or state regulatory action or criminal prosecution,
or economic events, such as a merger.\217\ The GAO posited
[[Page 44342]]
potential negative effects of such a loss, including the following:
Further limitations on large public company auditor choice, costs
associated with changing auditors, and companies' inability to obtain
timely financial statement audits.\218\ However, the GAO did not
recommend insulating auditing firms directly from either the legal or
market consequences of their actions.
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\216\ 2008 GAO Report 27-29. On the re-pricing of audits, see
also James D. Cox, The Oligopolistic Gatekeeper: The U.S. Accounting
Profession, in After Enron: Improving Corporate Law and Modernizing
Securities Regulation in Europe and the U.S., Chapter 9, Oxford,
forthcoming, available at http://ssrn.com/abstract=926360.
\217\ 2008 GAO Report 34-35.
\218\ 2008 GAO Report 35-36.
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With the above considerations in mind, the Committee recommends
that regulators, the auditing profession, and other bodies, as
applicable, effectuate the following:
Recommendation 1. Reduce barriers to the growth of smaller auditing
firms consistent with an overall policy goal of promoting audit
quality. Because smaller auditing firms are likely to become
significant competitors in the market for larger company audits only in
the long term, the Committee recognizes that Recommendation 2 will be a
higher priority in the near term.
The GAO concluded that concentration in the large public company
audit market will not be reduced in the near term by smaller auditing
firms. The Committee considered testimony regarding the reasons that
smaller auditing firms are unable or unwilling to enter the large
public company audit market. Challenges facing these firms' entry into
this market typically include the following: Lack of staffing and
geographic limitations on both the physical span of their practices and
experience and expertise with global auditing complexities; inability
to create global networks necessary to serve global clients, due to
lack of auditing firms abroad to act as potential partners; the need
for greater technical capability and industry specialization; lack of
name recognition and reputation; and limited access to capital.\219\ In
addition, expanding into the large public company audit market may be
unattractive for some smaller auditing firms for a variety of
reasons,\220\ including increased exposure to litigation, the
possibility that their business model is not scaleable, and the fact
that for some smaller firms other aspects of their business (such as
private company auditing and other work) has greater potential for
expansion.
---------------------------------------------------------------------------
\219\ See, e.g., 2008 GAO Report 37; Record of Proceedings (Dec.
3, 2007) (Written Submission of Wayne Kolins, National Director of
Assurance and Chairman, BDO Seidman LLP, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Kolins120307.pdf (describing as barriers for smaller auditing firms
liability risks, overly complex independence rules, and an array of
factors that audit committees may review in choosing an auditor that
best matches the company); Record of Proceedings (Feb. 4, 2008)
(Written Submission of Neal D. Spencer, Managing Partner, BKD, LLP,
1), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Spencer020408.pdf (noting that barriers include
resources, institutional bias, insurability, and liability).
\220\ 2008 GAO Report 38.
---------------------------------------------------------------------------
To address these issues, the Committee recommends that policy
makers press for the reduction of barriers, to the extent consistent
with audit quality and other public interest factors, to the growth of
smaller auditing firms. For smaller firms, this includes encouraging
and promoting development of technical resources in such areas as
international financial reporting standards (IFRS) and fair value
accounting, and development of specialized or ``niche'' practices or
industry ``verticals'' where they are in the best interests of
investors and can lead to more effective competition. Pressure also
should be applied against non-justifiable resistance to using smaller
firms on the part of a variety of market actors.
Some commentary has also noted the costs associated with public
companies' changing auditors and how these costs can pose another
barrier for smaller firms trying to enter the larger public company
audit market. For example, commentary and testimony noted the often
high fees charged for the predecessor auditor's opinion on previously
filed financial statements and the challenges associated with having
the predecessor auditor transfer its work papers to the successor
auditor.\221\ Other obstacles to auditor changes discussed by the
Committee have included poor communication between predecessor and
successor auditors.
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\221\ Anonymous, Private Investor, Former Auditor, and Former
CFO, Comment Letter Regarding Draft Report and Draft Report Addendum
1 (May 11, 2008), available at http://comments.treas.gov/index.cfm?FuseAction=Home.View&Topic_id=9&FellowType_id=1&CurrentPage=2; Record of Proceedings (June 3, 2008) (Questions
for the Record of Kurt N. Schacht, Managing Director, Centre for
Financial Markets Integrity, CFA Institute (June 30, 2008)),
available at http://www.treas.gov/offices/domestic-finance/acap/agendas/QFRs-6-3-08.pdf.
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The Committee believes that public companies should not be limited
in their auditor selection by unnecessary barriers created during the
auditor change and selection processes. Consistent with AU 315:
Communications Between Predecessor and Successor Auditors,\222\ which
addresses communications between predecessor and successor auditors,
the Committee urges the Securities and Exchange Commission (SEC) and
the PCAOB to encourage predecessor auditors to fully communicate and
cooperate with the successor auditors. This communication and
cooperation should apply to all auditors regardless of their size. The
issue of auditor changes and the importance of transparency in this
area are addressed within Chapter V of this Report.
---------------------------------------------------------------------------
\222\ Communications Between Predecessor and Successor Auditors,
Interim Auditing Standard AU 315 (Pub. Company Accounting Oversight
Bd. 2002).
---------------------------------------------------------------------------
The Committee believes that the following specific and incremental
actions would assist in the growth of the smaller firms and their entry
into the large public company audit market:
(a) Require disclosure by public companies in their registration
statements, annual reports, and proxy statements of any provisions in
agreements with third parties that limit auditor choice.
The Committee considered testimony and commentary that certain
market participants, such as underwriters, banks, and lenders, may
influence and effectively limit public company auditor selection
decisions.\223\ For instance, certain contractual arrangements limit
public companies' auditor choice.\224\ Consistent with the large public
company audit market, this practice is particularly prevalent in the
initial public offering (IPO) arena, where an underwriter may include
in the underwriting agreement a provision limiting the company's
auditor choice to a specified group of auditing firms.\225\
[[Page 44343]]
Evidence suggests that auditor choice may be more limited among the
largest IPOs: While midsize and smaller firms' combined share of the
IPO market (by number of IPOs) has increased progressively (rising from
18% in 2003 to 40% in 2007),\226\ the largest firms continue to audit
the majority of the largest IPOs.\227\ See Figure 2.
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\223\ See, e.g., Record of Proceedings (Feb. 4, 2008) (Written
Submission of Edward E. Nusbaum, Chief Executive Officer, Grant
Thornton LLP, and Chairman, Grant Thornton International Board of
Governors, 3), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Nusbaum020408.pdf (noting that
transparency regarding ``restrictive contracts with underwriters''
could improve auditor choice). See also 2008 GAO Report 47.
\224\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Written
Submission of Lewis H. Ferguson, III, Partner, Gibson Dunn &
Crutcher, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Ferguson120307.pdf (``Sometimes
lenders, investors, investment bankers or credit rating agencies
will insist that a company seeking to access the capital markets
have its financial statements audited by one of the largest
accounting firms, adding a bias that has the practical effect of
being a barrier to entry.'').
\225\ See, e.g., Record of Proceedings (May 5, 2008) (Oral
Remarks of Committee Member Ken Goldman, Chief Financial Officer,
Fortinet, Inc., 143), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-05-05-08.pdf. See also, Edwin
J. Kliegman, CPA, Comment Letter Regarding Discussion Outline 2
(Nov. 26, 2007), available at http://comments.treas.gov/index.cfm?FuseAction=Home.View&Topic_id=3&FellowType_id=1; Record
of Proceedings (Feb. 4, 2008) (Oral Remarks of Brad Koenig, Former
Managing Director and Head of Global Technology Investment Banking,
Goldman Sachs, 219-220), available at http://www.treas.gov/offices/domestic-finance/acap/Koenig020408.pdf (noting underwriter practices
in auditor selection).
\226\ 2008 GAO Report 44.
\227\ Record of Proceedings (Feb. 4, 2008) (Written Submission
of Brad Koenig, Former Managing Director and Head of Global
Technology Investment Banking, Goldman Sachs, 2), available at
http://www.treas.gov/offices/domestic-finance/acap/Koenig020408.pdf
(noting that from 2002-2007 the largest four auditing firms had an
87% market share of the 817 initial public offerings that exceeded
$20 million). See also 2008 GAO Report 44 (``Staff from some
investment firms that underwrite stock issuances for public
companies told [GAO] that in the past they generally had expected
the companies for which they raised capital to use one of the
largest firms for IPOs but that now these organizations were more
willing to accept smaller audit firms. * * * However, * * * most of
the companies that went public with a mid-size or smaller auditor
were smaller. In addition, these firms' share of IPOs of larger
companies (those with revenues greater than $150 million) rose from
none in 2003 to about 13 percent in 2007.'').
[GRAPHIC] [TIFF OMITTED] TN30JY08.043
The Committee believes these provisions impair competition by
limiting public company auditor choice and the ability of smaller
auditors to serve a greater share of the public company audit market.
Accordingly, the Committee recommends that the SEC require public
companies to disclose in their registration statements, annual reports,
and proxy statements any provisions in agreements limiting auditor
choice.\228\ The disclosure should identify the agreement and include
the names of the parties to the agreement and the actual provisions
limiting auditor choice.\229\
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\228\ See, e.g., Record of Proceedings (June 3, 2008) (Written
Submission of Jean C. Bedard, Timothy B. Harbert Professor of
Accounting, Department of Accountancy, Bentley College, 8),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Bedard060308.pdf (supporting this
Recommendation and noting that enhanced name recognition ``would
provide further incentives for these [smaller] firms to build the
personnel quality of their organizations''); Wayne Kolins, National
Director of Assurance and Chairman, BDO Seidman LLP, Comment Letter
Regarding Draft Report and Draft Report Addendum 5, (June 27, 2008),
available at http://comments.treas.gov/--files/
ResponsetoAdvisoryCommittee0627FINAL.pdf (recommending that ``the
SEC adopt a rule prohibiting agreements with third parties that
limit auditor selection to specific firms, other than to specify
that the firm selected must be suitably qualified to perform the
audit''); David McDonnell, Chief Executive Officer, Grant Thornton
International Ltd, and Edward E. Nusbaum, Chief Executive Officer,
Grant Thornton LLP, and Chairman, Grant Thornton International Ltd
Board of Governors, Comment Letter Regarding Draft Report and Draft
Report Addendum 6 (June 27, 2008), available at http://comments.treas.gov/_files/GTCommentlettertoACAPJune2008_FINAL.pdf
(``Such public disclosure will create incentives for audit
committees to optimize their auditor choice and help clarify that
size alone is not the best criterion when selecting an auditor.'').
But c.f., Record of Proceedings (June 3, 2008) (Written Submission
of Brian O'Malley, Senior Vice President and General Auditor, Nasdaq
Stock Market, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/OMalley060308.pdf (noting
that disclosure may add transparency but the ``root causes'' of
decisions to limit auditor choice remain).
\229\ The Committee notes that a group of market participants
put together by the United Kingdom's Financial Reporting Council to
study audit market competition has suggested similar disclosure of
contractual obligations limiting auditor choice. See Financial
Reporting Council, FRC Update: Choice in the UK Audit Market 4 (Apr.
2007) [hereinafter FRC Update] (recommending that ``when explaining
auditor selection decisions, Boards should disclose any contractual
obligations to appoint certain types of audit firms'').
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(b) Include representatives of smaller auditing firms in
committees, public forums, fellowships, and other engagements.
The Committee considered testimony that the lack of smaller firms'
name recognition and reputation have hindered smaller auditing firms'
ability to compete in the large public company audit market. The GAO
noted that name recognition, reputation, and credibility
[[Page 44344]]
were significant barriers to smaller auditing firm expansion.\230\ The
PCAOB has registered and oversees 982 U.S. auditing firms and 857
foreign auditing firms.\231\ While it is not possible to include all
smaller firms, the Committee received testimony and comment letters
suggesting that there should be greater inclusion and participation of
smaller firms in public and private sector committees, roundtables, and
fellowships.\232\ One auditing firm representative suggested the
creation of a PCAOB professional practice fellowship program, reaching
out to professionals from auditing firms of various sizes.\233\
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\230\ 2008 GAO REPORT 44 (``Fifty percent of accounting firms
responding to [GAO's] survey that want to audit large companies said
that name recognition or reputation with potential clients was a
great or very great impediment to expansion. Similarly, 54 percent
of these firms cited name recognition or credibility with financial
markets and investment bankers as a great or very great impediment
to expansion.''). See also Edward J. Kliegman, CPA, Comment Letter
Regarding Discussion Outline (Nov. 16, 2007), available at http://comments.treas.gov/index.cfm?FuseAction=Home.View&Topic_id=3&FellowType_id=1.
\231\ Data are as of Feb. 21, 2008.
\232\ See, e.g., Andrew D. Bailey, Jr., Professor of
Accountancy--Emeritus, University of Illinois, and Senior Policy
Advisor, Grant Thornton LLP, Comment Letter Regarding Discussion
Outline 16 (Jan. 30, 2008), available at http://comments.treas.gov/_files/BAILEYCOMMENTSONTREASURYADVISORYCOMMITTEEOUTLINEFINALSUBMISSION13008.
doc; Record of Proceedings (Dec. 3, 2007) (Questions for the Record
of James S. Turley, Chairman and Chief Executive Officer, Ernst &
Young LLP, 4 (Feb. 1, 2008)), available at http://www.treas.gov/offices/domestic-finance/acap/QFRs-12-3-2007.pdf.
\233\ Record of Proceedings (Dec. 3, 2007) (Written Submission
of Wayne Kolins, National Director of Assurance and Chairman, BDO
Seidman LLP, 4), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Kolins120307.pdf. See Chapter IV
(recommending the creation of a PCAOB fellowship program). While
maintenance and extension of professional fellowship programs are
also considered in the Committee's recommendations relating to human
capital matters, extending these opportunities increasingly to firms
of various sizes could assist smaller firms in their ability to
compete in the public company audit market.
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The Committee believes increasing name recognition and reputation
could promote audit market competition and auditor choice.\234\
Accordingly, the Committee recommends that regulators and policy
makers, such as the SEC, the PCAOB, and the Financial Accounting
Standards Board (FASB), include representatives of smaller auditing
firms in committees, public forums, fellowships, and other
engagements.\235\ The Committee recognizes the existence of different
programs within regulatory agencies available to serve as a resource
and contact point for smaller auditing firms and smaller public
companies, such as, the SEC's Office of Small Business Policy, the
PCAOB's Forum on Auditing in the Small Business Environment, and the
FASB's Small Business Advisory Committee.
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\234\ See, e.g. Record of Proceedings (June 3, 2008) (Written
Submission of Jean C. Bedard, Timothy B. Harbert Professor of
Accounting, Department of Accountancy, Bentley College, 8),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Bedard060308.pdf (agreeing with the
Recommendation); Record of Proceedings (June 3, 2008) (Written
Submission of Kenneth Nielsen Goldmann, Capital Markets and SEC
Practice Director, J.H. Cohn LLP, 4), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Goldmann060308.pdf (``More opportunities such as this testimony for
leaders of smaller firms to participate in important public policy
discussions about the public company audit profession would over
time enhance public understanding and acceptance that high quality
in auditing is achievable in different forms and packages.'');
Record of Proceedings (June 3, 2008) (Written Submission of Kurt N.
Schacht, Managing Director, Centre for Financial Market Integrity,
CFA Institute, 2-3), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Schacht060308.pdf.
\235\ For a similar recommendation, see SEC Advisory Committee
on Smaller Public Companies, Final Report 114 (Apr. 23, 2006).
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Recommendation 2. Monitor potential sources of catastrophic risk
faced by public company auditing firms and create a mechanism for the
preservation and rehabilitation of troubled larger public company
auditing firms.
The Committee considered testimony regarding the variety of
potentially catastrophic risks that public company auditing firms face.
These risks include general financial risks and risks relating to
failure in the provision of audit services and non-audit services,
including civil litigation, regulatory actions, and loss of customers,
employees, or auditing network partners due to a loss of
reputation.\236\
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\236\ See, e.g., 2008 GAO Report 32-36; Zoe-Vonna Palmrose,
Maintaining the Value and Viability of Independent Auditors as
Gatekeepers under SOX: An Auditing Master Proposal, in Brookings-
Nomura Seminar: After the Horses Have Left the Barn: the Future Role
of Financial Gatekeepers 12-13 (Sept. 28, 2005). Civil litigation
was the risk most often cited by witnesses before the Committee.
See, e.g., Record of Proceedings (Dec. 3, 2007) (Written Submission
of James D. Cox, Brainerd Currie Professor of Law, Duke University
School of Law), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Cox120307.pdf. See also Eric R.
Talley, Cataclysmic Liability Risk among Big Four Auditors, 106
Colum. L. Rev. 1641 (Nov. 2006) (``On one hand, the pattern of
liability exposure during the last decade does not appear to be the
type that would, at least on first blush, imperil the entire
profession. On the other hand, if one predicts historical liability
exposure patterns into the future, the risk of another firm exiting
due to liability concerns appears to be more than trivial.'').
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The Committee believes these risks are real and notes that over the
past two decades two large auditing firms have gone out of existence.
In 1990, Laventhol & Horwath, at the time the seventh largest auditing
firm in the United States, filed for bankruptcy protection due in part
to a failure in the provision of non-audit services, and subsequent
class action litigation, loss of reputation, and inability to attract
and retain clients.\237\ In 2002, Arthur Andersen, at the time one of
the five largest auditing firms in the United States, dissolved. The
Department of Justice (DOJ) had criminally indicted the auditing firm
on obstruction of justice charges relating to the audit of Enron. The
resulting inability to retain clients and partners and keep together
its global affiliate network led to the collapse of Arthur
Andersen.\238\
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\237\ See, e.g, 2008 GAO Report 33.
\238\ See, e.g., U.S. Government Accountability Office, Public
Accounting Firms: Mandated Study on Consolidation and Competition 12
(July 2003) (``The criminal indictment of fourth-ranked Andersen for
obstruction of justice stemming from its role as auditor of Enron
Corporation led to a mass exodus of Andersen partners and staff as
well as clients.'').
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In addition, KPMG recently faced the possibility of criminal
indictment relating to its provision of tax-related services. In the
end, KPMG entered into a deferred prosecution agreement with the
DOJ.\239\ Many have suggested that a criminal indictment would have led
to the dissolution of the firm.
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\239\ 2008 GAO Report 56-57, n. 60. Note that the Department of
Justice did indict several individuals.
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Currently, BDO Seidman is appealing a $521 million state judgment
involving a private company audit client. The auditing firm's chief
executive has publicly stated that such a judgment amount would
threaten the firm's viability.\240\
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\240\ Jury Awards Rise Against BDO Seidman, Assoc. Press, Aug.
15, 2007.
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As discussed above, the Committee believes that the loss of one of
the larger auditing firms would likely have a significant negative
impact on the capital markets. Of greatest concern is the potential
disruption to capital markets that the failure of a large auditing firm
would cause, due to the lack of sufficient capacity to audit the
largest public companies and the possible inability of public companies
to obtain timely audits.\241\ The
[[Page 44345]]
Committee believes these concerns must be balanced against the
importance of auditing firms and their partners, as private, for-profit
businesses, being exposed to the consequences of failure, including
both the legal consequences and economic consequences.
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\241\ See 2008 GAO Report 35, 36 (observing that further audit
market concentration would ``leave large companies with potentially
only one or two choices for a new auditor'' and that ``the market
disruption caused by a firm failure or exit from the market could
affect companies' abilities to obtain timely audits of their
financial statements, reducing the audited financial information
available to investors''). See also London Economics, Final Report
to EC-DG Internal Market and Services, Study on the Economic Impact
of Auditors' Liability Regimes 24 (Sept. 2006) (``The adjustment to
a situation in which one of the Big-4 networks fails is unlikely to
be smooth. But the long run consequences are likely to be limited
provided the overall statutory audit capacity does not fall
significantly. Among the various economic sectors, financial
institutions may find such a situation particularly difficult as
their statutory audits are viewed as more risky and * * * two Big-4
firms dominate the market for statutory audits of financial
institutions. The situation is likely to be much direr if a second
Big-4 network fails shortly after the first one. Investors'
confidence will be in all likelihood seriously affected and the
adjustment to the new situation is likely to be difficult.'').
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In consideration of these competing concerns, the Committee makes
the following recommendations:
(a) As part of its current oversight over registered auditing
firms, the PCAOB should monitor potential sources of catastrophic risk
which would threaten audit quality.
The PCAOB's mission is to oversee auditing firms conducting audits
of public companies. Its audit quality-focused mission is intertwined
with issues of catastrophic risk, as most often risks to firms'
survival historically have been largely the result of significant audit
quality failures or serious compliance issues in the non-audit services
aspect of their business.
Sarbanes-Oxley provides the PCAOB with registration, reporting,
inspection, standard-setting, and enforcement authority over public
company auditing firms.\242\ Under its inspection authority, the PCAOB
inspects audit engagements, evaluates quality control systems, and
tests as necessary audit, supervisory, and quality control procedures.
For example, in its inspection of an auditing firm's quality control
systems, the PCAOB reviews the firm's policies and procedures related
to partner evaluation, partner compensation, new partner nominations
and admissions, assignment of responsibilities, disciplinary actions,
and partner terminations; compliance with independence requirements;
client acceptance and retention policies and procedures; compliance
with professional requirements regarding consultations on accounting,
auditing, and SEC matters; internal inspection program; processes for
establishing and communicating audit policies, procedures, and
methodologies; processes related to review of a firm's foreign
affiliate's audit performance; and tone at the top.\243\
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\242\ Sarbanes-Oxley Act of 2002, 15 U.S.C. Sec. Sec. 7211-
7219.
\243\ See, e.g., PCAOB, Observations on the Initial
Implementation of the Process for Addressing Quality Control
Criticisms within 12 Months after an Inspection Report, PCAOB
Release No. 104-2006-078 (Mar. 21, 2006). See also the PCAOB's
completed inspection reports at http://www.pcaobus.org/Inspections/Public_Reports/index.aspx#k.
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The PCAOB also has authority to require registered auditing firms
to provide annual and periodic reports. In May 2006, the PCAOB issued
Proposed Rules on Periodic Reporting by Registered Public Accounting
Firms requiring annual and periodic reporting.\244\ The PCAOB has not
yet finalized this proposal.
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\244\ PCAOB Release No. 2006-004 (May 23, 2006).
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The Committee therefore recommends that the PCAOB, in furtherance
of its objective to enhance audit quality and effectiveness, exercise
its authority to monitor meaningful sources of catastrophic risk that
potentially impact audit quality through its programs, including
inspections, registration and reporting, or other programs, as
appropriate.\245\ The objective of PCAOB monitoring would be to alert
the PCAOB to situations in which auditing firm conduct is resulting in
increased catastrophic risk which is impairing or threatens to impair
audit quality.\246\
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\245\ See, e.g., Record of Proceedings (June 3, 2008) (Oral
Remarks of James Kaplan, Chairman and Founder, Audit Integrity, 280-
283), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-06-03-08.pdf (noting that ``it really only
requires one or two catastrophic events in order to upset or disturb
the market place. And clearly, more information needs to be gathered
and collected to ensure, or at least assure, that the number of
tragic incidents like that are minimized and mitigated''); Record of
Proceedings (June 3, 2008) (Written Submission of Brian O'Malley,
Senior Vice President and General Auditor, Nasdaq Stock Market, 2-
3), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/OMalley060308.pdf (supporting this
Recommendation); Record of Proceedings (June 3, 2008) (Written
Submission of Kurt N. Schacht, Managing Director, Centre for
Financial Market Integrity, CFA Institute, 3), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Schacht060308.pdf (supporting this Recommendation).
\246\ See, e.g., Record of Proceedings (June 3, 2008) (Written
Submission of Jean C. Bedard, Timothy B. Harbert Professor of
Accounting, Department of Accountancy, Bentley College, 9),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Bedard060308.pdf (supporting this
Recommendation); Record of Proceedings (June 3, 2008) (Written
Submission of Charles W. Gerdts, III, General Counsel,
PricewaterhouseCoopers, LLP, 8), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Bedard060308.pdf
(stating that the ``concept'' behind this Recommendation deserves
serious consideration).
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(b) Establish a mechanism to assist in the preservation and
rehabilitation of a troubled larger auditing firm. A first step would
encourage larger auditing firms to adopt voluntarily a contingent
streamlined internal governance mechanism that could be triggered in
the event of threatening circumstances. If the governance mechanism
failed to stabilize the firm, a second step would permit the SEC to
appoint a court-approved trustee to seek to preserve and rehabilitate
the firm by addressing the threatening situation, including through a
reorganization, or if such a step were unsuccessful, to pursue an
orderly transition.
The Committee considered testimony regarding the importance of the
viability of the larger auditing firms and the negative consequences of
the loss of one of these firms on the capital markets. The Committee
also considered commentary regarding issues auditing firms faced in
addressing circumstances that threatened their viability, including, in
particular, problems arising from the need to work with regulators and
law enforcement agencies.\247\ Several witnesses suggested the
development of a mechanism to allow auditing firms facing threatening
circumstances to emerge from those situations.\248\ Committee member
and former Federal Reserve Chairman Paul Volcker opined that, ``[I]f we
had [such an] arrangement at the time Andersen went down, we would have
saved it.''\249\ The Committee notes that it is critical to have a
process in place to quickly respond to crisis events and
[[Page 44346]]
recommends the following two-step mechanism described below.
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\247\ See, e.g., Securities and Exchange Commission, Temporary
Final Rule and Final Rule: Requirements for Arthur Andersen LLP
Auditing Clients, SEC Release No. 33-8070 (Mar. 18, 2002);
Securities and Exchange Commission, Press Rel. No. 2002-39 and Order
Rel. No. 33-8070 (Mar. 18, 2002) (indictment of Arthur Andersen);
SEC Staff Accounting Bulletin No. 90 (Feb. 7, 1991) (bankruptcy of
Laventhol & Horwath).
\248\ Record of Proceedings (Dec. 3, 2007) (Written Submission
of James R. Doty, Partner, Baker Botts L.L.P., 11-13), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Doty120307.pdf (suggesting that the Bankruptcy Code be
amended to prevent creditors whose claims relate to violations of
professional standards from opposing reorganization under a court-
approved plan; an automatic stay against partners facilitating
partner retention; expanding the SEC's emergency powers to enable
the SEC to act by summary order to address the registered firm's
ability to continue to provide audit services; and encouraging the
SEC or PCAOB to discourage ``client poaching'' by requiring public
companies to show that switching auditors was not related to mega-
judgments against audit affiliates in other jurisdictions). See also
Record of Proceedings (Dec. 3, 2007) (Written Submission of Peter S.
Christie, Principal, Friemann Christie, LLC, 6), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Christie120307.pdf (``If it remains possible that a firm can fail
for reasons other than liability claims it may be attention needs to
be given to devices that will permit a firm to re-emerge.'').
\249\ Record of Proceedings (Mar. 13, 2008) (Oral Remarks of
Paul A. Volcker, Former Chairman, Board of Governors, Federal
Reserve System, 317), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/minutes-03-13-08.pdf.
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First Step--Internal Governance Mechanism
The Committee notes that auditing firms operate as partnerships,
generally led by a centralized management team, with a supervisory
board of partners overseeing management's strategy and
performance.\250\ In the event of threatening circumstances at a larger
auditing firm, the Committee believes that a lack of effective
centralized governance mechanisms may delay crucial decision making,
impede difficult decisions that could sustain the firm and its human
assets, and lessen the firm's ability to communicate with maximum
responsiveness and effectiveness with private, regulatory and judicial
bodies.
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\250\ Center for Audit Quality, Report of the Major Public
Company Audit Firms to the Department of the Treasury Advisory
Committee on the Auditing Profession 13 (Jan. 23, 2008).
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The Committee therefore recommends that larger auditing firms
(those with 100 or more public company audit clients that the PCAOB
inspects annually) establish in their partnership agreements a
contingent internal governance mechanism, involving the creation of an
Executive Committee (made up of partners or outsiders) with centralized
firm management powers to address threatening circumstances. The
centralized governance mechanism would have full authority to negotiate
with regulators, creditors, and others, and it would seek to hold the
firm's organization intact, including preserving the firm's reputation,
until the mitigation of the threat, or, failing that, the
implementation of the second step outlined below. The auditing firm
voluntarily would trigger the operation of this mechanism upon the
occurrence of potentially catastrophic events specified in the
partnership agreement, such as civil litigation or actual or
significantly threatened government or regulatory action. If necessary,
the SEC and the PCAOB could encourage the firm to trigger the mechanism
through private communications, public statements, or other means.
Regulators could also assist in maintaining the firm's organization
intact by, for example, increasing the time period for registrants that
are audit clients to have audits or reviews completed and providing
accelerated consultative guidance to registrants that are audit
clients.\251\ The Committee recognizes the precise details of such a
mechanism would vary from auditing firm to auditing firm, depending on
firm structures, history, and culture.\252\
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\251\ See, e.g., Securities and Exchange Commission, Temporary
Final Rule and Final Rule: Requirements for Arthur Andersen LLP
Auditing Clients, SEC Release No. 33-8070 (Mar. 18, 2002);
Securities and Exchange Commission, Press Rel. No. 2002-39 and Order
Rel. No. 33-8070 (Mar. 18, 2002) (indictment of Arthur Andersen);
SEC Staff Accounting Bulletin No. 90 (Feb. 7, 1991) (bankruptcy of
Laventhol & Horwath).
\252\ Note that some commenters sought more prescription
surrounding the implementation of this mechanism. See, e.g., Record
of Proceedings (June 3, 2008) (Written Submission of Jean C. Bedard,
Timothy B. Harbert Professor of Accounting, Department of
Accountancy, Bentley College, 9), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Bedard060308.pdf
(recommending that the SEC and/or the PCAOB be granted the power to
``require a firm to invoke its internal governance mechanism or to
directly invoke the external preservation mechanism when
particularly severe threats arise''); Deloitte LLP, Comment Letter
Regarding Draft Report and Draft Report Addendum 27-29 (June 27,
2008), available at http://comments.treas.gov/_files/DeloitteLLPCommentLetter.pdf (stating that ``the only effective way
to stave off disaster is to ensure that the threat itself is
mitigated at its source''); Cynthia Fornelli, Executive Director,
Center for Audit Quality, Comment Letter Regarding Draft Report and
Draft Report Addendum 34-35 (June 27, 2008), available at http://comments.treas.gov/_files/CAQCommentletter62708FINAL.pdf; Record of
Proceedings (June 3, 2008) (Written Submission of Barry Mathews,
Deputy Chairman, Aon Corporation, 1), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Mathews060308.pdf.
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Second Step--External Preservation Mechanism
The Committee also recommends that the larger auditing firms
establish in their partnership agreements a rehabilitation mechanism
under SEC oversight. The failure of the internal governance mechanism
to preserve the auditing firm outlined in the first step above would
trigger this second step, which would require legislation. Upon
triggering of the second step, either voluntarily by the firm or by the
SEC, the SEC would appoint a trustee, subject to court approval, whose
mandate would be to seek to address the circumstances that threaten
survival, and failing that, to pursue a reorganization that preserves
and rehabilitates the firm to the extent practicable, and finally, if
reorganization fails, to pursue an orderly transition.\253\ If this
second mechanism is to include an element that addresses claims of
creditors (which could include investors with claims, audit and other
clients, partners, other employees, and others), legislation to
integrate this mechanism with the judicial bankruptcy process may be
necessary.
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\253\ Some witnesses questioned whether the SEC would be willing
to assume such a role. See, e.g., Record of Proceedings (June 3,
2008) (Written Submission of Charles W. Gerdts, III, General
Counsel, PricewaterhouseCoopers, LLP, 9), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Gerdts060308.pdf (noting that the SEC may not have the resources,
expertise, or will to assume such a role).
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It is important that this mechanism not be used as insurance for
partner capital; that is, this mechanism should not be developed to
``bail out'' a larger auditing firm, but rather to preserve and
rehabilitate the firm in order to ensure the stable functioning of the
capital markets and the timely delivery of audited financial statements
to investors and other financial statement users. Accordingly, there
must be powers that can be exercised in furtherance of the objective of
holding the firm together.\254\
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\254\ Record of Proceedings (Dec. 3, 2007) (Written Submission
of James R. Doty, Partner, Baker Botts L.L.P., 11), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Doty120307.pdf (Dec. 3, 2007) (``It is an anecdotal but
firmly held perception of the profession that no accounting firm has
entered bankruptcy and emerged to continue its practice. The hard
assets of the firm are not significant: the professionals and the
clients are the lifeblood of the registered firm. With any
anticipation of bankruptcy, these mobile assets are gone.'').
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In addition, the Committee recommends that, in order for the SEC to
make effective and timely use of its powers under this Recommendation
and for the DOJ to have the opportunity to be informed as to the
consequences that would result from a potential charging decision
against a public auditing firm (as distinct from individuals within a
firm), the DOJ should inform the SEC prior to bringing criminal charges
against such a firm.
The Committee also notes that the larger auditing firms are members
or affiliates of global networks of firms and rely on these networks to
serve their global clients. Since the networks are maintained through
voluntary contractual agreements, the fact that a U.S.-based firm may
be facing threatening circumstances could lead to the disintegration of
the network. In this regard, in developing this mechanism, auditing
firms, regulators, policy makers, and other market participants must
consider the practical implications resulting from the relationship
between the U.S.-based firms and the global networks.
Recommendation 3. Recommend the PCAOB, in consultation with
auditors, investors, public companies, audit committees, boards of
directors, academics, and others, determine the feasibility of
developing key indicators of audit quality and effectiveness and
requiring auditing firms to publicly disclose these indicators.
Assuming development and disclosure of indicators of audit quality are
feasible,
[[Page 44347]]
require the PCAOB to monitor these indicators.
A key issue in the public company audit market is what drives
competition for audit clients and whether audit quality is the most
significant driver. Currently, there is minimal publicly available
information regarding indicators of audit quality at individual
auditing firms. Consequently, it is difficult to determine whether
audit committees, who ultimately select the auditor, and management are
focused and have the tools that are useful in assessing audit quality
that would contribute to making the initial auditor selection and
subsequent auditor retention evaluation processes more informed and
meaningful.\255\ In addition, with the majority of public companies
currently putting shareholder ratification of auditor selection to an
annual vote, shareholders may also lack audit quality information
important in making such a ratification decision.\256\
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\255\ See, e.g., New York Stock Exchange, Listed Company Manual
Sec. 303A, which the SEC approved on November 4, 2003, for the
responsibilities of exchange-listed companies' audit committees.
\256\ Institutional Shareholder Services, U.S. Corporate
Governance Policy--2007 Updates 3 (2006).
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The Committee believes that requiring firms to disclose indicators
of audit quality may enhance not only the quality of audits provided by
such firms, but also the ability of smaller auditing firms to compete
with larger auditing firms, auditor choice, shareholder decision-making
related to ratification of auditor selection, and PCAOB oversight of
registered auditing firms.
The Committee recognizes the challenges of developing and
monitoring indicators of audit quality, especially in light of the
complex factors driving the potential impact on the incentives of
market actors, and the resulting effect on competitive dynamics among
auditors.\257\
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\257\ If the idea proves to be workable, implementation could be
a major undertaking for the PCAOB. Developing meaningful quality
indicators, defining how they should be measured, and rolling out
the measurement process could take significant PCAOB time and
effort. Auditing firms, public companies, investors, and academics
would all likely have valuable ideas as to approaches the PCAOB
could take. However the indicators were devised, firms would have to
build their internal processes for measuring the audit quality
indicators and the PCAOB would have to develop procedures and
training to monitor those processes.
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The Committee has considered testimony and comment letters as well
as other studies and reports in developing this recommendation. A
possible framework for PCAOB consideration is reviewing annual auditing
firm reports in other jurisdictions. For example, one auditing firm's
United Kingdom affiliate lists in its annual report nine ``key
performance indicators, including average headcount, staff turnover,
diversity, client satisfaction, audit and non-audit work, proposal win
rate, revenue, profit, and profit per partner.'' \258\ The Financial
Reporting Council recently published a paper setting out drivers of
audit quality.\259\ In addition, the PCAOB also could consider some of
the factors that auditing firms present to audit committees, such as
engagement team composition, the nature and extent of firm training
programs, and the nature and reason for client restatements.\260\
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\258\ See KPMG LLP, UK Annual Report 2007 46.
\259\ FRC Update 4.
\260\ Record of Proceedings (Dec. 3, 2007) (Written Submission
of Wayne Kolins, National Director of Assurance and Chairman, BDO
Seidman LLP, 4), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Kolins120307.pdf.
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The Committee therefore recommends that the PCAOB, in consultation
with auditors, investors, public companies, audit committees, boards of
directors, academics, and others, determine the feasibility of
developing key indicators of audit quality and requiring auditing firms
to publicly disclose these indicators.\261\ Testimonies and comment
letters have suggested specific output-based audit quality indicators--
indicators determined by what the auditing firm has produced in terms
of its audit work, such as number of frauds discovered and nature and
reason for financial restatements related to time periods when the
underlying reason for restatement occurred during the auditing firm's
tenure as auditor for the client- and input-based audit quality
indicators--indicators of what the auditing firm puts into its audit
work to achieve a certain result, such as the auditing firm's processes
and procedures used for detecting fraud, the average experience level
of auditing firm staff on individual engagements, the average ratio of
auditing firm professional staff to auditing firm partners on
individual engagements, and annual staff retention.\262\ The Committee
believes that the PCAOB should consider both output-based and input-
based indicators.\263\ The
[[Page 44348]]
Committee also recommends that, if the proposal is feasible, the PCAOB,
through its inspection process, should monitor these indicators.
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\261\ See, e.g., Deloitte LLP, Comment Letter Regarding Draft
Report and Draft Report Addendum 29, (June 27, 2008), available at
http://comments.treas.gov/_files/DeloitteLLPCommentLetter.pdf;
Ernst & Young LLP, Comment Letter Regarding Draft Report and Draft
Report Addendum 33-34, (June 27, 2008), available at http://comments.treas.gov/_files/EYACAPCommentLetterFINAL.pdf; Cynthia
Fornelli, Executive Director, Center for Audit Quality, Comment
Letter Regarding Draft Report and Draft Report Addendum 36-38, (June
27, 2008), available at http://comments.treas.gov/_files/CAQCommentletter62708FINAL.pdf (noting that the feasibility study
should state the overarching objectives of quality indicators,
consider the differences in firm size, partnership model, audit
practice scope and audit specialty, and recognize the costs,
difficulty and complexity involved); Record of Proceedings (June 3,
2008) (Written Submission of Kenneth Nielsen Goldmann, Capital
Markets and SEC Practice Director, J.H. Cohn LLP, 4), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Goldmann060308.pdf.
\262\ See, e.g., Anonymous Retired Big 4 partner, Comment Letter
Regarding Discussion Outline (Nov. 2007) (recommending public
disclosure of the following audit quality drivers: (1) Average years
of experience of audit professionals, (2) ratio of professional
staff to audit partners, (3) chargeable hours per audit
professional, (4) professional chargeable hours managed per audit
partner, (5) annual professional staff retention, and (6) average
annual training hours per audit professional); Matthew J. Barrett,
Professor of Law, Notre Dame Law School, Comment Letter Regarding
Draft Report and Draft Report Addendum (June 13, 2008), available at
http://comments.treas.gov/index.cfm?FuseAction=Home.View&Topic&_id=9&FellowType&_id=1&CurrentPage=1; Dennis Johnson, CFA, Senior
Portfolio Manager, CalPERS, Comment Letter Regarding Draft Report
and Draft Report Addendum 3, (June 13, 2008), available at http://comments.treas.gov/_files/200806--13ACAP--addendum--commentltr.pdf
(suggesting to include, among other things, ``average headcount,
staff turnover, diversity, client satisfaction, audit and non-audit
work, proposal win rate, revenue, profit, profit per partner,
engagement team composition, the nature and extent of training
programs and the nature and reason for client restatements'');
Record of Proceedings (Dec. 3, 2007) (Written Submission of Wayne
Kolins, National Director of Assurance and Chairman, BDO Seidman
LLP, 4), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Kolins120307.pdf (recommending the
issuance of regulatory guidance on qualitative factors to be used by
audit committees and other market participants to evaluate auditing
firms); Record of Proceedings (Dec. 3, 2007) (Written Submission of
Dennis M. Nally, Chairman and Senior Partner, PricewaterhouseCoopers
LLP, 6), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Nally120307.pdf (suggesting that
disclosure of ``key elements that drive audit quality would be a
useful benefit to the capital markets'' and could include ``firm
disclosure and discussion of the levels of partner and staff
turnover, average hours of professional training, risk management
and compliance measurements, and metrics related to the quality of
management and firm governance processes''); Anonymous Private
Investor, Former Auditor, and Former CFO, Comment Letter Regarding
Draft Report and Draft Report Addendum (May 11, 2008), available at
http://comments.treas.gov/index.cfm?FuseAction=Home.View&Topic&_id=9&FellowType&_id=1&CurrentPage=2 (recommending that the
auditor's report disclose, in addition to the location of the office
conducting the audit, the percentage of office revenue attributed to
the client, the length of the audit firm's tenure with the client,
and the length of time until the lead and concurring partner must
rotate).
\263\ See, e.g., Matthew J. Barrett, Professor of Law, Notre
Dame Law School, Comment Letter Regarding Draft Report and Draft
Report Addendum (June 13, 2008), available at http://comments.treas.gov/index.cfm?FuseAction=Home.View&Topic_id=9&FellowType_id=1&CurrentPage=1 (suggesting that the SEC require
registrants to publicly disclose any financial fraud uncovered by
the auditor, including numbers and amount of all audit adjustments,
and the number of restatements of financial statements with
unqualified opinions); Joseph V. Carcello, Chair, AAA Task Force to
Monitor the Activities of the Treasury ACAP Ernst & Young Professor
and Director of Research--Corporate Governance Center University of
Tennessee, Jean C. Bedard Timothy B. Harbert Professor of
Accountancy Bentley College, Dana R. Hermanson Dinos Eminent Scholar
Chair of Private Enterprise and Professor of Accounting Kennesaw
State University, Comment Letter Regarding Draft Report and Draft
Report Addendum 10 (May 15, 2008), available at http://comments.treas.gov/_files/ACAPCommentLetterMay152008.pdf
(suggesting that the Committee consider ``output-based measures of
audit quality'' such as fewer client frauds, fewer client
restatements, less earnings management, and more accurate auditor
reporting before a bankruptcy filing); Record of Proceedings (Dec.
3, 2007) (Written Submission of Wayne Kolins, National Director of
Assurance and Chairman, BDO Seidman LLP, 2), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Kolins120307.pdf; Gilbert F. Viets, Comment Letter Regarding Draft
Report and Draft Report Addendum 2-3, (May 19, 2008), available at
http://comments.treas.gov/_files/TREASURYLETTER3.doc (suggesting
disclosure of instances where the auditor found and corrected, prior
to their disclosure, material financial statement errors and the
firms' ``acceptable audit risk'' in discovering material errors).
The Committee recognizes the concerns noted by certain testimony and
commentary regarding the use of audit quality indicators. See, e.g.,
Cynthia M. Fornelli, Executive Director, Center for Audit Quality,
Comment Letter Regarding Draft Report and Draft Report Addendum 37
(June 27, 2008), available at http://comments.treas.gov/_files/CAQCommentletter62708FINAL.pdf (``Any feasibility study should also
consider--as the [UK's Financial Reporting Council] has recognized--
how the key indicators being considered may vary due to factors
unrelated to audit quality.''); Wayne Kolins, National Director of
Assurance and Chairman, BDO Seidman, LLP, Comment Letter Regarding
Draft Report and Draft Report Addendum 11 (June 27, 2008), available
at http://comments.treas.gov/_files/ResponsetoAdvisoryCommittee0627final.PDF (``Disclosure of indicators
would only be meaningful if they have a clear and demonstrable
relationship to audit quality and, even if they do, only if they can
be understood in the context of a particular audit.''); Record of
Proceedings (June 3, 2008) (Written Submission of Brian O'Malley,
Senior Vice President and General Auditor, Nasdaq Stock Market, 3),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/OMalley060308.pdf (cautioning against an
auditing industry managing itself towards some set of preconceived
metrics that might sway them from investor protection).
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Recommendation 4. Promote the understanding of and compliance with
auditor independence requirements among auditors, investors, public
companies, audit committees, and boards of directors, in order to
enhance investor confidence in the quality of audit processes and
audits.
The Committee considered testimony and comment letters regarding
the significance of the independence of the public company auditor--
both in fact and appearance--to the credibility of financial reporting,
investor protection, and the capital formation process.\264\ The
auditor is expected to offer critical and objective judgment on the
financial matters under consideration, and actual and perceived absence
of conflicts is critical to that expectation.
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\264\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Written
Submission of Dennis M. Nally, Chairman and Senior Partner,
PricewaterhouseCoopers LLP, 5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Nally120307.pdf
(``Independence forms the bedrock of credibility in the auditing
profession, and is essential to the firms' primary function in the
capital markets.''); Record of Proceedings (Feb. 4, 2008) (Written
Submission of Edward E. Nusbaum, Chief Executive Officer, Grant
Thornton LLP, and Chairman, Grant Thornton International Board of
Governors, 3), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Nusbaum020408.pdf.
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The Committee believes that auditors, investors, public companies,
and other market participants must understand the independence
requirements and their objectives, and that auditors must adopt a
mindset of skepticism when facing situations that may compromise their
independence. In that regard, the Committee makes the following
recommendations:
(a) Compile the SEC and PCAOB independence requirements into a
single document and make this document website accessible. The American
Institute of Certified Public Accountants (AICPA) and state boards of
accountancy should clarify and prominently note that differences exist
between the SEC and PCAOB standards (applicable to public companies)
and the AICPA and state standards (applicable in all circumstances, but
subject to SEC and PCAOB standards, in the case of public companies)
and indicate, at each place in their standards where differences exist,
that stricter SEC and PCAOB independence requirements applicable to
public company auditors may supersede or supplement the stated
requirements. This compilation should not require rulemaking by either
the SEC or the PCAOB because it only calls for assembly and compilation
of existing rules.
In the United States, various oversight bodies have authority to
promulgate independence requirements, including the SEC and PCAOB for
public company auditors, and the AICPA and state boards of accountancy
for public and private company auditors.\265\ The Committee recommends
that the SEC and PCAOB compile and publish their independence
requirements in a single document and make this document easily
accessible on their websites.\266\ The Committee recommends that the
AICPA and state boards of accountancy clarify and prominently state
that differences exist between their standards and those of the SEC and
the PCAOB and indicate, at each place in their standards where
differences exist, that additional SEC and PCAOB independence
requirements applicable to public company auditors may supersede or
supplement the stated requirements.\267\
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\265\ See, e.g., SEC Regulation S-X, Article 2, Rule 2-01--
Qualifications of Accountants, 17 CFR Sec. 210.2-01; SEC Financial
Reporting Policies, Sec. 602.01--Interpretations Relating to
Independence; SEC Final Rule, Amendments to SEC Auditor Independence
Requirements ``Strengthening the Commission's Requirements Regarding
Auditor Independence'', SEC Rel. No 33-8183 (2003); SEC Final Rule,
Revision of the Commission's Auditor Independence Requirements, SEC
Rel. No. 33-7919 (2001); PCAOB, Interim Independence Standards, ET
Sections 101 and 191; Independence Standards Board, Independence
Standards Nos. 1, 2, and 3, and ISB Interpretations 99-01, 00-1, and
00-2; PCAOB Bylaws and Rules, Section 3, Professional Standards;
AICPA Code of Professional Conduct, ET Sections 100-102.
\266\ See, e.g., Cynthia Fornelli, Executive Director, Center
for Audit Quality, Comment Letter Regarding Draft Report and Draft
Report Addendum 38-39, (June 26, 2008), available at http://comments.treas.gov/_files/CAQCommentletter62708FINAL.pdf (agreeing
that ``such a document would make it easier for auditors to
understand the independence requirements that apply to them'');
Record of Proceedings (June 3, 2008) (Written Submission of Brian
O'Malley, Senior Vice President and General Auditor, Nasdaq Stock
Market, 3), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/OMalley060308.pdf (stating that
the Recommendation would be a ``great asset'');
PricewaterhouseCoopers, Comment Letter Regarding Draft Report and
Draft Report Addendum 19, (June 30, 2008), available at http://comments.treas.gov/_files/PwCCommentLtrTreasCmtDraftandAddendum63008.pdf (supporting this
Recommendation). Note that the Committee received testimony and
comment letters suggesting that the Department of Labor independence
rules be included in this compilation. See, e.g. Deloitte LLP,
Comment Letter Regarding Draft Report and Draft Report Addendum 30,
(June 27, 2008), available at http://comments.treas.gov/_files/DeloitteLLPCommentLetter.pdf; Record of Proceedings (June 3, 2008)
(Written Submission of Kenneth Nielsen Goldmann, Capital Markets and
SEC Practice Director, J.H. Cohn LLP, 7), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Goldmann060308.pdf. (recommending the inclusion of the Department of
Labor and others in the Recommendation); Mayer Hoffman McCann P.C.,
Comment Letter Regarding Draft Report and Draft Report Addendum 5,
(June 17, 2008), available at http://comments.treas.gov/_files/MayerHoffmanMcCannCommentLetter.pdf (suggesting the Recommendation
include the SEC, PCAOB, AICPA, DOL, and GAO).
\267\ The Committee took note of concerns expressed regarding
independence issues from a variety of perspectives. See, e.g.,
Andrew D. Bailey, Jr., Professor of Accountancy--Emeritus,
University of Illinois, and Senior Policy Advisor, Grant Thornton
LLP, Comment Letter Regarding Discussion Outline 9 (Jan. 30, 2008),
available at http://comments.treas.gov/_files/BAILEYCOMMENTSONTREASURYADVISORYCOMMITTEEOUTLINEFINALSUBMISSION13008.
doc (suggesting simplifying the current SEC independence standards);
Dana R. Hermanson, Kennesaw State University, Comment Letter
Regarding Discussion Outline 1 (Oct. 4, 2007), available at http://comments.treas.gov/_files/HermansonStatement10407.pdf (stating that
consulting and auditing were incompatible and posed a significant
threat to the long-term sustainability of the profession); Record of
Proceedings (Dec. 3, 2007) (Written Submission of Dennis M. Nally,
Chairman and Senior Partner, PricewaterhouseCoopers LLP, 5),
available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Nally120307.pdf (``The independence rules
should be re-evaluated periodically to examine whether the rules
continue to strike the right balance between cost burden and
benefit.''); Record of Proceedings (Dec. 3, 2007) (Written
Submission of James S. Turley, Chairman and Chief Executive Officer,
Ernst & Young LLP, 5), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Turley120307.pdf
(recommending consideration of potential changes to aspects of
independence rules). Note that one witness called for adoption of a
single set of independence rules for public and private companies.
See, e.g., Record of Proceedings (June 3, 2008) (Written Submission
of Kurt N. Schacht, Managing Director, Centre for Financial Market
Integrity, CFA Institute, 6), available at http://www.treas.govoffices/domestic-finance/acap/submissions/06032008/Schacht060308.pdf.
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[[Page 44349]]
(b) Develop training materials to help foster and maintain the
application of healthy professional skepticism with respect to issues
of independence and other conflicts among public company auditors, and
inspect auditing firms, through the PCAOB inspection process, for
independence training of partners and mid-career professionals.
The Committee considered testimony and commentary that, to comply
with the detailed and complex \268\ requirements, some auditors may be
taking a ``check the box'' approach to compliance with independence
requirements, and losing focus on the critical need to exercise
independent judgment or professional skepticism about whether the
substance of a potential conflict of interest may compromise integrity
or objectivity, or create an appearance of doing so.\269\
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\268\ See, e.g., Record of Proceedings (Dec. 3, 2007) (Written
Submission of Michael P. Cangemi, President and Chief Executive
Officer, Financial Executives International), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/12032007/Cangemi120307.pdf; Financial Executives International,
Recommendations to ADDRESS Complexity in Financial Reporting (Mar.
2007).
\269\ See, e.g., Consideration of Fraud in a Financial
Statement, Interim Auditing Standard AU 316, Paragraph.13 (Pub.
Company Accounting Oversight Bd. 2002) (``Professional skepticism is
an attitude that includes a questioning mind and a critical
assessment of audit evidence.'').
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The Committee recommends that auditing firms develop appropriate
independence training materials for auditing firms, especially partners
and mid-career professionals, that help to foster a healthy
professional skepticism with respect to issues of independence that is
objectively focused and extends beyond a ``check the box''
mentality.\270\ The training materials should focus on lessons learned
and best practices observed by the PCAOB in its inspection process and
the experience of other relevant regulators as appropriate. To ensure
the implementation of this training on an overall basis, the PCAOB
should review this training as part of its inspection program.
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\270\ See, e.g., Record of Proceedings (June 3, 2008) (Written
Submission of Dan Guy, Former Vice President, Professional Standards
and Services, American Institute of Certified Public Accountants,
3), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Guy060308.pdf (stating that auditors fail to
detect material financial statement fraud due to, among other
things, the lack of professional skepticism); Record of Proceedings
(June 3, 2008) (Written Submission of Brian O'Malley, Senior Vice
President and General Auditor, Nasdaq Stock Market, 3), available at
http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/OMalley060308.pdf (noting that ``auditor skepticism
throughout an auditor's career is the keystone, all incentives and
disincentives should be focused on its achievement'');
PricewaterhouseCoopers, Comment Letter Regarding Draft Report and
Draft Report Addendum 19, (June 30, 2008), available at http://comments.treas.gov/_files/PwCCommentLtrTreasCmtDraftandAddendum63008.pdf (stating that
``independence forms the bedrock of credibility in the auditing
profession, and is essential to the firm's primary function in the
capital markets'').
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Recommendation 5. Adopt annual shareholder ratification of public
company auditors by all public companies.
Although not statutorily required, the majority of public companies
in the United States--nearly 95% of S&P 500 and 70%-80% of smaller
companies--put auditor ratification to an annual shareholder vote.\271\
Even though ratification of a company's auditor is non-binding, the
Committee learned that corporate governance experts consider this a
best practice serving as a ``check'' on the audit committee.\272\
Pursuant to Sarbanes-Oxley, audit committees of exchange-listed
companies must appoint, compensate, and oversee the auditor.\273\ SEC
rules implementing Sarbanes-Oxley specifically permit shareholder
ratification of auditor selection.\274\ Ratification allows
shareholders to voice a view on the audit committee's work, including
the reasonableness of audit fees and apparent conflicts of interest.
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\271\ Institutional Shareholder Services, ISS U.S. Corporate
Governance Policy--2007 Update 3 (Nov. 15, 2006).
\272\ Institutional Shareholder Services, Request for Comment--
Ratification of Auditors ON THE Ballot 1.
\273\ Sarbanes-Oxley Act, 15 U.S.C. Sec. 78j-1 (2002).
\274\ SEC, Final Rule: Standards Related to Listed Audit
Committees. Release No. 33-8220 (Apr. 9, 2003).
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The Committee believes shareholder ratification of auditor
selection through the annual meeting and proxy process can enhance the
audit committee's oversight to ensure that the auditor is suitable for
the company's size and financial reporting needs.\275\ This may enhance
competition in the audit industry. Accordingly, the Committee
encourages such an approach as a best practice for all public
companies. The Committee also urges exchange self-regulatory
organizations to adopt such a requirement as a listing standard. In
addition, to further enhance audit committee oversight and auditor
accountability, the Committee recommends that disclosure in the company
proxy statement regarding shareholder ratification include the name(s)
of the senior auditing partner(s) staffed on the engagement.\276\ The
[[Page 44350]]
Committee notes that there might be other audit-engagement specific
data, such as the auditor's tenure with a specific public company
client, useful to shareholders and audit committees.
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\275\ See also FRC Update 5, 7 (recommending that ``the FRC
should amend the section of the Smith Guidance dealing with
communications with shareholders to include a requirement for the
provision of information relevant to the auditor re-selection
decision,'' and that ``investor groups, corporate representatives,
firms and the FRC should promote good practices for shareholder
engagement on auditor appointment and re-appointments'').
\276\ See, e.g., Andrew D. Bailey, Jr., Professor of
Accountancy--Emeritus, University of Illinois, and Senior Policy
Advisor, Grant Thornton LLP, Comment Letter Regarding Draft Report
and Draft Report Addendum 4, (June 16, 2008), available at http://comments.treas.gov/_files/TREASURYLETTER3BAILEY61608.doc (``Knowing
that any failure will be clearly and unambiguously associated with
the named individuals and that the veil of the firm will not be
there to obscure their responsibility may be of value.''); Record of
Proceedings (June 3, 2008) (Written Submission of Jean C. Bedard,
Timothy B. Harbert Professor of Accounting, Department of
Accountancy, Bentley College, 11), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Bedard060308.pdf (supporting the Recommendation and suggesting
further that the Committee recommend an advisory shareholder vote on
each member of the audit committee for companies that have not
adopted a majority vote provision for all board members, and that
the engagement partner sign both his or her name as well as the
firm's name to the audit report, making it a more direct public
statement of responsibility than proxy disclosure); Paul Lee,
Director, Hermes Equity Ownership Services Limited, Comment Letter
Regarding Draft Report and Draft Report Addendum 4, (June 13, 2008),
available at http://comments.treas.gov/_files/ACAPresponse13Jun08.pdf (stating that an auditor should not continue
in office unless it receives a majority of the votes of shareholders
in favor of ratification, and noting that accountability and
professional judgment would be increased if auditors' reports were
signed by individuals as well as in the names of the relevant audit
firm); Record of Proceedings (June 3, 2008) (Written Submission of
Kurt N. Schacht, Managing Director, Centre for Financial Market
Integrity, CFA Institute, 6), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Schacht060308.pdf
(supporting the Recommendation and further recommending disclosure
of other key engagement individuals in addition to the lead audit
partner, and transparent disclosure of audit quality, firm financial
strength, and professional skill level at least to the audit
committee, if not publicly). But c.f., Deloitte LLP, Comment Letter
Regarding Draft Report and Draft Report Addendum 21-22, (June 27,
2008), available at http://comments.treas.gov/_files/DeloitteLLPCommentLetter.pdf (noting that the Recommendation goes
against the team nature of audits, raises personal security and
privacy concerns, and is unrelated to audit quality); Ernst & Young
LLP Comment Letter Regarding Draft Report and Draft Report Addendum
28, (June 27, 2008), available at http://comments.treas.gov/_files/EYACAPCommentLetterFINAL.pdf; Mayer Hoffman McCann
P.C., Comment Letter Regarding Draft Report and Draft Report
Addendum 3, (June 17, 2008), available at http://comments.treas.gov/_files/MayerHoffmanMcCannCommentLetter.pdf (suggesting that
``[o]ther individuals involved in the audit might actually feel less
responsibility if only the engagement and concurring partners sign
the report or only top partners are named, precisely the opposite of
what should be encouraged''); David McDonnell, Chief Executive
Officer, Grant Thornton International Ltd, and Edward E. Nusbaum,
Chief Executive Officer, Grant Thornton LLP, and Chairman, Grant
Thornton International Ltd Board of Governors, Comment Letter
Regarding Draft Report and Draft Report Addendum 4, (June 27, 2008),
available at http://comments.treas.gov/_files/GTCommentlettertoACAPJune2008_FINAL.pdf (noting the team effort
aspect of audits and stating that partners may be unwilling to
accept the added risk, personal security issues, and privacy
issues). As discussed above, the Committee also believes that this
ratification process would be made more meaningful if accompanied by
the development and disclosure of key indicators of audit quality.
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Recommendation 6. Enhance regulatory collaboration and coordination
between the PCAOB and its foreign counterparts, consistent with the
PCAOB mission of promoting quality audits of public companies in the
United States.
The globalization of the capital markets has compelled regulatory
coordination and collaboration across jurisdictions. Regulators of
public company auditors are no exception, as companies increasingly
seek investor capital outside their home jurisdictions and the larger
auditing firms create, expand, and, in some audits, increasingly rely
on global networks of affiliates in order to provide auditing and other
services to companies operating in multiple jurisdictions.\277\ The
Committee considered commentary regarding the PCAOB's regulatory role
on a global basis.\278\
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\277\ See Record of Proceedings (Feb. 4, 2008) (Written
Submission of Cynthia M. Fornelli, Executive Director, Center for
Audit Quality, 16), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/02042008/Fornelli020408.pdf
(noting the ``growing consensus that regulators on every continent
would be well served by working more closely together in the
interest of improving worldwide audit quality''); PCAOB Press
Release, PCAOB Meets with Asian Counterparts to Discuss Cooperation
on Auditor Oversight (Mar. 23, 2007), available at http://www.pcaobus.org/News_and_Events/News/2007/03-23.aspx (``The PCAOB
strongly believes that dialogue and cooperation among auditor
regulators are critical to every regulator's ability to meet the
challenges that come with the increasingly complicated and global
capital markets.'').
\278\ See, e.g., PCAOB Briefing Paper, Oversight of Non-U.S.
Public Accounting Firms (Oct. 28, 2003); PCAOB Final Rules Relating
to the Oversight of Non-U.S. Public Accounting Firms, PCAOB Rel. No.
2004-005 (June 9, 2004); Request for Public Comment on Proposed
Policy Statement: Guidance Regarding Implementation of PCAOB Rule
4012, PCAOB Rel. No. 2007-001 (Dec. 5, 2007); PCAOB Chairman Mark
Olson and EU Commissioner Charlie McCreevy Meet to Discuss
Furthering Cooperation in the Oversight of Audit Firms, PCAOB Press
Rel. (March 6, 2007); PCAOB Meets with Asian Counterparts to Discuss
Cooperation on Auditor Oversight, PCAOB Press Rel. (Mar. 23, 2007);
Establishment of the International Forum of Independent Audit
Regulators, Haut Conseil du Commissariat aux Comptes Press Rel.
(Sep. 15, 2006); PCAOB Enters into Cooperative Arrangement with the
Australian Securities and Investments Commission, PCAOB Press Rel.
(July 16, 2007); Board Establishes Standing Advisory Group, PCAOB
Press Rel. (Apr. 15, 2004).
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The PCAOB has the statutory responsibility for ensuring quality
audits of public companies. In a world of global business operations
and globalized capital markets, the PCAOB benefits from cooperation
with foreign auditing firm regulators (many created and modeled after
the PCAOB) to accomplish its inspections of registered foreign auditing
firms, including firms that are members of global auditing firm
networks.
In May 2007, the PCAOB hosted its first International Auditor
Regulatory Institute where representatives from more than 40
jurisdictions gathered to learn more about PCAOB operations. In 2006,
the PCAOB formally joined the International Forum of Independent Audit
Regulators, created to encourage regulatory collaboration and sharing
of regulatory knowledge and experience.
The Committee believes that these types of global regulatory
coordination and cooperation are important elements in making sure
public company auditing firms of all sizes are contributing effectively
to audit quality. The Committee strongly supports the efforts of the
PCAOB to enhance the efficiency and effectiveness of its programs by
communicating with foreign regulators and participating in global
regulatory bodies. The Committee urges the PCAOB and its foreign
counterparts to continue to improve regulatory cooperation and
coordination on a global basis.\279\
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\279\ See, e.g., Joseph Carcello, Chair, AAA Task Force to
Monitor the Activities of the Treasury ACAP Ernst & Young Professor
and Director of Research--Corporate Governance Center University of
Tennessee, Jean C. Bedard Timothy B. Harbert Professor of
Accountancy Bentley College, Dana R. Hermanson Dinos Eminent Scholar
Chair of Private Enterprise and Professor of Accounting Kennesaw
State University, Comment Letter Regarding Draft Report and Draft
Report Addendum 11, (May 15, 2008), available at http://comments.treas.gov/_files/ACAPCommentLetterMay152008.pdf (agreeing
with the Recommendation); Record of Proceedings (June 3, 2008)
(Written Submission of Brian O'Malley, Senior Vice President and
General Auditor, Nasdaq Stock Market, 4), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/OMalley060308.pdf (agreeing with the Recommendation); Record of
Proceedings (June 3, 2008) (Written Submission of Kurt N. Schacht,
Managing Director, Centre for Financial Market Integrity, CFA
Institute, 6), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Schacht060308.pdf (agreeing with
this ``most important'' Recommendation).
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In addition, the Committee recognizes the challenges that the
globalized regulatory environment creates for smaller firms,
particularly with respect to the increasing acceptance of IFRS.\280\
The Committee believes that regulators and policy makers must recognize
the importance of including smaller firms in international roundtables,
discussions, and policy making decisions.\281\
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\280\ Record of Proceedings (June 3, 2008) (Questions for the
Record of Mr. Kenneth Nielsen Goldmann, Capital Markets and SEC
Practice Director, J.H. Cohn LLP, 21-22 (June 30, 2008)), available
at http://www.treas.gov/offices/domestic-finance/acap/agendas/QFRs-6-3-08.pdf (noting the difficulty and costs associated with
implementing IFRS for smaller firms); Record of Proceedings (June 3,
2008) (Questions for the Record of Mr. Kurt N. Schacht, Managing
Director, Centre for Financial Market Integrity, CFA Institute, 73-
74 (June 30, 2008)), available at http://www.treas.gov/offices/domestic-finance/acap/agendas/QFRs-6-3-08.pdf (stating the
difficulty in maintaining competence in IFRS, GAAP, and local/
national standards).
\281\ See, e.g., Record of Proceedings (June 3, 2008) (Written
Submission of Kurt N. Schacht, Managing Director, Centre for
Financial Market Integrity, CFA Institute, 3), available at http://www.treas.gov/offices/domestic-finance/acap/submissions/06032008/Schacht060308.pdf (stating that demonstrating technical competence
in international matters is of increased importance especially for
smaller firms).
[FR Doc. E8-17441 Filed 7-29-08; 8:45 am]
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