New Blood: Can Doty Reinvigorate the PCAOB?

As part of our occasional series of conversations with compliance executives and others influential in the corporate governance world, Compliance Week caught up with James Doty, the newly seated chairman of the Public Company Accounting Oversight Board, to talk about the state of the audit profession, recently announced international inspections, and plans for changes to audit standards in the coming months. Doty has an unenviable job on his hands. He takes the helm at the PCAOB after 18 months of an interim chairman, as the board fought off a Constitutional challenge to its existence and the way board members are appointed.

Doty, in fact, was a key member of the legal team that defended the PCAOB's position before the U.S. Supreme Court. Now he's charged with leading the audit regulator through a fresh examination of the auditing profession, following an economic crisis that raised new questions about how best to assure the reliability of financial statements.

Following turmoil in the marketplace and the auditing profession over the past few years, what do you see as the immediate priorities for the PCAOB?

The accounting firms haven't been the attributed cause of the recent financial collapse, but we need to understand what that financial collapse teaches us about the audit process and where it's going. We have to be thinking about what practices and procedures are conducive to good audit quality and which ones undermine it. We're going to be judged by whether we are creating better audits. We've got to be thinking about how to efficiently and effectively inspect global firms, how we deal with the smaller firms inspected every three years, and how we deal with this new authority and responsibility to inspect broker-dealer audits. We're going to be working with the Financial Accounting Standards Board and the Securities and Exchange Commission to form an unbroken seam of communication, a sharing of information and data, to be sure we're doing the best job we can to proactively, constructively influence what other agencies are doing. We've got to deal with our foreign challenges, having access to inspect firms in the European Union and China, and what challenges they pose for audit quality. We want to look not just retrospectively but we're also looking forward at where the audit profession is going.

We still see plenty of “busted audits,” where clean audit reports precede corporate meltdowns. What's wrong with the current audit model? And what can the PCAOB do about it?

Many people have long realized that perhaps the attest model generates false or brittle expectations of what it covers and have questioned whether or not auditors are looking for all the right things. The firms are going through a lot of self-examination in the wake of the financial collapse. The board is receiving analysis and is thinking about what it means. What is the scope of the audit, and what goes into the audit report? How do auditors relate to and communicate with the audit committee and management? When you start down that path, you really open up the entire scope of the audit function. The board is going to be looking at different points of view and considering what it should be doing. It's quite possible that out of this will come some task forces and study groups that will take up the big questions in accountancy and auditing. The SEC is planning a series of public discussions of these issues and I wouldn't be surprised if there are a number of such initiatives and discussion groups that start getting deep into this subject.

MEMBERS OF THE BOARD

What follows is the complete list of PCAOB members:

James R. Doty,PCAOB Chairman since 2011

James R. Doty was appointed by the Securities and Exchange Commission as the chairman of the Public Company Accounting Oversight Board in January 2011. From 1990 to 1992, Doty served as general counsel of the SEC. In that role, he advised the Commission on matters of law and regulatory policy related to the Commission's oversight of U.S. securities markets, including initiatives relating to the integrity of financial reporting and disclosure standards in the context of the globalization of capital markets, enforcement practices and policies in the wake of the savings-and-loan crisis, international technical assistance and coordination efforts, and adoption of the Remedies Act of 1990.

Lewis H. Ferguson,Board member since 2011

Lewis H. Ferguson was appointed by the Securities and Exchange Commission to be a member of the Public Company Accounting Oversight Board in January 2011. From 2004 to 2007, Ferguson served as the first general counsel of the PCAOB. Before joining the PCAOB as a board member, Ferguson was a partner in the law firm of Gibson Dunn & Crutcher, where he focused on securities regulation, disclosure issues, and corporate governance matters.

Daniel L. Goelzer,Board member since 2002

Daniel L. Goelzer was appointed by the Securities and Exchange Commission as a founding member of the Public Company Accounting Oversight Board in October 2002. In 2007, the SEC unanimously reappointed him to serve an additional term of five years. He served as acting chairman of the PCAOB from August 2009 through January 2011. From 1983 to 1990, Goelzer served as general counsel of the SEC. 

Jay Hanson,Board member since 2011

Jay D. Hanson was appointed by the Securities and Exchange Commission to be a member of the Public Company Accounting Oversight Board in January 2011. Prior to joining the Board, Hanson spent nearly 32 years at McGladrey & Pullen, LLP, where he worked with a variety of clients ranging from small non-profit organizations to large multi-national public companies. At the time of his departure, Hanson was the national director of accounting.

Steven B. Harris,Board member since 2008

Steven B. Harris was unanimously appointed by the Securities and Exchange Commission to the Public Company Accounting Oversight Board in June 2008. Harris was the staff director and chief counsel of the U.S. Senate Banking, Housing and Urban Affairs Committee under Chairman Paul S. Sarbanes during the consideration and passage of the Sarbanes-Oxley Act of 2002, and is widely credited with helping to shape the reform legislation and the establishment of the PCAOB.

Source: Public Company Accounting Oversight Board.

U.S. capital markets are eager to see some enforcement actions arising from the economic crisis, but the PCAOB's enforcement process is private. What's your view on the privacy around enforcement?

There's no doubt that all law enforcement agencies view publicity as part of the deterrent aspect of enforcement. There are firms we know should not be taking on additional public company clients that have rushed out to do so, cloaked under the confidentiality of our enforcement proceedings. There are a lot of enforcement mechanisms the SEC has that might be considered, like investigative reports. It would be nice if we had something like freeze orders, where we would simply stop some audit firm from going forward and adding new clients, or something like an interim or permanent cease-and-desist authority. We might also have some discretion to make a determination that the public interest requires the publicity of an enforcement action. None of that exists now. In the meantime, we will think of ways to work with the SEC and other enforcement agencies to find other ways to discourage audit firms from simply going about business as usual because they haven't been the subject of a public enforcement sanction. We do have audit practice alerts where we can talk about patterns that we can identify.

Do you envision any changes in the inspection process?

We expect to thoroughly review how the department is structured, what it is looking for, and how it achieves results. It's important that everyone—the firms, the investing public, the regulators—believe that the inspection report contains the important stuff, and that it's not a vehicle for inconsequential nitpicking. It's important for people to know the inspection report each year benefits from some fresh insights, and that it's not just a rehash of something that's been used before. People want to know the process is fair, and where shortcomings have been identified, they are shortcomings that have the potential for really hurting investors and cropping up in busted audits.

How do you expect to overcome the legal challenges to international inspections?

The agreement with the United Kingdom is very helpful. We want to build on that. We are communicating with other countries, and that will continue. This is really a case of building credibility in the audit process. Everyone in all markets has a real stake in seeing something that looks like international law. We know there are different jurisdictions and different ways of doing things, but the principles of audit rigor can be expected in all places. Other areas like counterterrorism and money laundering have become much more cooperative, so we'll be reaching out to Treasury and others to get a better grasp on how to go about it and create vehicles for that.

What are the priorities for new auditing standards?

We have 15 active projects and they go all the way from the form and content of the audit report to other more technical and arcane areas. This is potentially the most complex and sensitive thing we do. It's not good to produce standards that confuse the inspection team and the auditors trying to apply them. Standard setting, with inspections and enforcement, forms a three-legged stool in assuring audit quality.

Should the PCAOB be more concerned about converging U.S. auditing standards with international standards?

Auditing standards are different from accounting standards. You can get to principles-based accounting a little more easily than you can get to principles-based auditing. Auditors need to be trained and told what to look for. Convergence is less easy in audit. We should be having discussions and share information between regimes, but standards can include more or less prescriptive detail. That's always where the substance is in auditing standards.

The PCAOB has experienced its share of budget pressure, and now it has more work to do in regulating broker-dealer audits under the Dodd-Frank Act. Do you have the resources you need?

Our challenge is going to be to recruit the people we need to perform what we are budgeting. We don't expect that to be the biggest problem in the budgeting area. We raise our money from the registrant community. They pay for this as part of the price of an audit. So we're careful stewards of our budget.

For months, nobody wanted this job. Why did you?

Audit quality is fundamental to much of capital market health. I've lived through audit collapses, and I have a great deal of regard for the independent attestation function. The only thing auditors have is their independence. It gives them enormous importance in the financial system, and enormous power. It's not a power we want to see replaced by a government agency. I've had a very satisfactory, interesting legal career so I have some views about this, and now I can do this. I'm not in a position where I need to be thinking about what my next job will be. This is my last job, and I want to do it justice.

Thanks, James.