The Securities and Exchange Commission’s deputy chief accountant issued a reminder to public companies that the responsibility for ensuring auditor independence doesn’t only fall on the shoulders of the auditor—audit committees also need to step up to the plate.
Reminding listeners that, “management, the audit committee and the auditors are responsible for independence,” SEC Deputy Chief Accountant Andrew D. Bailey Jr. advised auditors and registrants at a conference last week in New York that the Commission is “placing more reliance on audit committee judgments.”
“There’s always been a lot of emphasis placed on the auditor, but we’re putting more emphasis on management and on the audit committee,” Bailey told the audience of accountants, public company executives and attorneys at the Current Developments Under the Sarbanes-Oxley Act Conference, sponsored by the Foundation for Accounting Education.
“When we see a problem, we’ll ask management if it’s been discussed with the audit committee, and if the audit committee isn’t in the loop, we’ll tell them to bring the audit committee into the loop,” Bailey told Compliance Week after the event.
Officials from the SEC and the Public Company Accounting Oversight Board have acknowledged that independence rules under Sarbanes-Oxley Section 404 and the PCAOB’s Auditing Standard No. 2 have caused management at many companies to take an arm's length approach to talking with their auditors about accounting, auditing and reporting issues, for fear of impairing their independence. However, officials at both agencies have repeatedly said that isn’t what the rules intended. In guidance issued in May, both the PCAOB and the SEC encouraged auditors to engage in more dialogue with their clients.
“The feedback from the SEC [April] roundtable confirmed that 404 and Auditing Standard 2 did chill the dialogue between management and auditors,” acknowledged Bailey. “They are definitely more cautious about talking about audit, accounting and control problems than in the past—we think the audit committee pulled back too far.”
Reiterating the SEC’s view that the rules shouldn’t put a wall between auditors and audit committees, Bailey noted, while the rules say the auditor can’t make accounting decisions for management, the auditor should be in direct communication with management. “If the registrant is knowledgeable about the accounting and has the expertise required to make an independent judgment about accounting issues, then the auditor and the registrant should talk.” However, if the company’s management doesn’t have the expertise to make such decisions, he added, “the audit committee has the ability to hire to get the appropriate expertise—they should take that seriously.”
“Audit committees need to take charge,” Bailey told Compliance Week. “SOX gave them the power to hire, compensate, fire and oversight the audit process. You can argue that it existed before, but SOX made it clear.”
Bailey noted that the PCAOB is expected at some point to address the issue of communications with audit committee in a standard. Earlier this year, PCAOB Chairman William McDonough said the board is working to develop a new audit standard related to auditor communications with clients and audit committees; however, the oversight body hasn’t yet offered any details about its possible content or set a timetable.
Bailey also noted that the SEC is considering revisions to the independence standards. “We’re looking to see which ones could be altered without taking on too much risk,” he said. However, to do that would “require a culture change, and we’re not going to create that on our own,” said Bailey, adding, “You don’t get a culture change in five years.”
While Sarbanes-Oxley gives the PCAOB authority to set the ethics and independence rules for auditors, Bailey said the SEC is currently still handling auditor oversight, with the exception of audit firm inspections. “We’re ready to turn it all over to the PCAOB when they’re ready to take it,” he noted.
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