Over the past several days, the PCAOB has taken a number of steps to make clear that it remains active during the COVID-19 crisis. For example, after issuing only one settled enforcement order during the first three months of 2020, the PCAOB has issued two settled orders in the past week. Both concerned smaller firms, but they serve to demonstrate that the Board is still carrying out its enforcement mandate.
Two other recent actions by the PCAOB also are worth highlighting: on April 17, the PCAOB requested comment from stakeholders on the implementation of its critical audit matters (CAM) standard,[1] and on April 21, PCAOB Chairman William Duhnke, together with SEC Chairman Jay Clayton and other SEC leadership, issued a statement concerning emerging market risks.[2] We review both of these developments below.
CAM Request for Comment
In its order approving the adoption of the PCAOB’s CAM standard in 2017, the SEC stated, in part:
[I]t will be important to closely monitor the implementation of the Proposed Rules, including potentially issuing incremental implementation guidance (if needed), providing PCAOB staff to be available to respond to questions and challenges as they arise, and completing a post-implementation review as soon as reasonably possible, including some analysis between effective dates for CAMs. The Commission expects the PCAOB to take such steps.[3]
Responding to that directive, the PCAOB stated on April 17 that it “is conducting surveys and targeted interviews of impacted stakeholders including auditors, preparers, audit committee members, investors, and other financial statement users.”[4] To supplement that outreach, the PCAOB is also accepting comments from these and other stakeholders about the CAM standard and its implementation. The PCAOB request for comment specifically noted an interest in learning, among other things: (i) what effects the inclusion of CAMs in audit reports have had for financial statement users, (ii) what factors made some CAMs more useful than others, and (iii) whether CAMs have affected communications between auditors and audit committees. Importantly, the PCAOB is also interested in hard data from the audit industry concerning the costs involved in implementing the CAM standard.[5]
The PCAOB has shown that it is receptive to expressed concerns about the regulatory burdens created by its standards. To the extent that audit firms and other stakeholders have strong views concerning the costs and benefits of the CAM standard, the PCAOB’s request for comment is an ideal opportunity to make those views known. We would be happy to review these considerations with any party that it is interested in commenting.
Emerging Market Risks
On April 21, SEC Chairman Clayton, PCAOB Chairman Duhnke, SEC Chief Accountant Sagar Teotia, and the directors of the SEC’s Division of Corporation Finance and Division of Investment Management issued a joint statement, “Emerging Market Investments Entail Significant Disclosure, Financial Reporting and Other Risks; Remedies are Limited.” The statement notes that “in many emerging markets, including China, there is substantially greater risk that disclosures will be incomplete or misleading and, in the event of investor harm, substantially less access to recourse, in comparison to U.S. domestic companies.” One aspect of this risk that the statement discusses at length is the inability of the PCAOB to inspect audit work by Chinese firms, including Hong Kong firms auditing mainland China companies. Perhaps more important, however, is the final paragraph concerning the PCAOB’s view of emerging-market audit work more generally:
In connection with our ongoing efforts to address a number of issues related to the quality of financial reporting and auditing in emerging markets, we have been meeting with senior representatives of the six largest U.S. audit firms and representatives of their global networks. To be clear, these discussions with the audit firms are not intended to be a substitute for the PCAOB inspecting audit work and practices of PCAOB-registered accounting firms in China with respect to their audit work of U.S.-listed companies. These meetings have included discussions regarding audit quality across their global networks and the importance of effective and consistent oversight of member firms globally, including those operating in China and other emerging markets. In each of these meetings, the audit firms have recognized their responsibilities as auditors and acknowledged the importance of consistent audit methodologies across their global networks. We were clear in sharing our expectations that they fulfill these responsibilities. (emphasis added)
While the ongoing dispute between the United States and China in relation to audit workpaper access garners a significant amount of the press attention directed toward the PCAOB, it is important to keep in mind that the PCAOB’s concerns regarding the quality of audit work in emerging markets are far broader than China alone. The PCAOB actively inspects audit firms in dozens of emerging markets, and its enforcement program has included a number of enforcement actions against both large and small firms that are located in, or audit issuers (including affiliates of U.S. issuers) in, emerging markets. We interpret Chairman Duhnke’s April 21 statement to indicate that this focus will continue for the foreseeable future.
In light of this statement, audit committees should consider making inquiries of their auditors concerning (i) the extent to which the firm’s audit planning includes procedures related to operations in emerging markets, (ii) the means by which the firm plans to perform procedures in such emerging markets, including its planned reliance on the work of other (including associated) audit firms, and (iii) the means by which the firm plans to help ensure audit quality for those aspects of the audit.
For additional information regarding this post, please contact the authors Michael Scanlon, a partner in Gibson Dunn’s Washington D.C. office, and David Ware, of counsel in Gibson Dunn’s Washington D.C. office and a former Associate Director in the PCAOB’s Division of Enforcement and Investigations.
[1] Request for Comment – Interim Analysis of Critical Audit Matters (Apr. 17, 2020) (“Request”), available at https://pcaobus.org/EconomicAndRiskAnalysis/pir/Documents/RFC-Interim-Analysis-CAM-Requirements.pdf.
[2] Emerging Market Investments Entail Significant Disclosure, Financial Reporting and Other Risks; Remedies are Limited, available at https://pcaobus.org/News/Speech/Pages/emerging-market-investments-entail-significant-disclosure-financial-reporting-other-risks-remedies-are-limited.aspx.
[3] Public Company Accounting Oversight Board; Order Granting Approval of Proposed Rules on the Auditor’s Report on an Audit of Financial Statements When the Auditor Expresses an Unqualified Opinion, and Departures from Unqualified Opinions and Other Reporting Circumstances, and Related Amendments to Auditing Standards, Rel;/. No. 34-81916, at 46 (Oct. 23, 2017).
[4] Request at 2.
[5] Id. at 2-4.