Securities Regulation Daily PCAOB inspections officials talk about inspection trends, offer pointers
Monday, October 22, 2018

PCAOB inspections officials talk about inspection trends, offer pointers

By Amanda Maine, J.D.

Officials in the PCAOB’s Division of Registration and Inspections spoke on a panel at the American Law Institute CLE’s 2018 Accountants’ Liability Conference in Washington, D.C. George Botic, acting director of the Division, said that it is an exciting time to be at the PCAOB, noting that the five new Board members come from different and unique backgrounds. The Board is taking a fresh look at its inspections and registrations policies. Botic recalled that the function of the PCAOB is investor protection, calling it the Board’s "North Star," and that the Board seeks to enforce five core values: integrity, effectiveness, excellence, collaboration, and accountability.

Transformation activities. The Board is undergoing "transformation activities" to address prevention, detection, and remediation to drive continuous improvement in audit quality, Botic said. In doing so, the Board is evaluating all its policies, Botic said, emphasizing that there are no sacred cows. The Board is also working on ways to improve technology and innovation, he remarked.

The state of audit quality. Botic praised how much audit quality has improved since the founding of the Board in 2002 in the wake of the early 2000s auditing scandals. However, he said that this is a time for "self-reflection," both for the PCAOB and for auditing firms. The Board is also committed to more transparency about its inspections process and wants to increase staff interactions with audit firms and other stakeholders.

Findings. The most common findings of the inspections staff have remained consistent, Botic said. There continues to be a significant number of findings in the area of revenue recognition and accounts receivable, including the testing of internal controls regarding revenue. Findings relating to non-financial assets such as goodwill and other non-tangible assets also remain high, Botic said, noting that these areas often involve complex methods which are more subject to management bias. Internal controls over financial reporting (ICFR), especially deficiencies relating to testing controls that include a review element, are also among the staff’s recurring findings, according to Botic.

Auditor’s reporting model. Inspections Deputy Director Christine Gunia said that the staff is proactively monitoring what firms are doing to comply with the Board’s 2016 standard on the auditor’s reporting model and issuing updated guidance. For example, in complying with the new standard’s requirement to disclose auditor tenure, Gunia said that some firms disclosed that they were unable to make a determination of tenure. In response, the Board issued guidance in August 2018 to give more clarity for determining auditor tenure and model language to use to disclose this, she explained.

Phase 2 of the implementation of the new auditor’s reporting model, which goes into effect for the audits of large accelerated filers next year, is another area where the staff has engaged with firms on their pilot programs for the disclosure of critical audit matters (CAMs), Gunia said.

Hot trends. Gunia made observations regarding trends that have emerged from recent inspections. On independence, Gunia said that the staff is continuing to observe deficiencies related to the monitoring of the independence of personnel at non-affiliated firms. Many firms are failing to perform any procedures to verify the completeness and accuracy of the financial holdings their employees, she said. From an inspections perspective, Gunia said the staff is trying to look deeper into what is causing the employees to fail to report their holdings. She encouraged firms to self-identify any independence issues and to share them with PCAOB staff.

Alan Skinner, deputy director of the Division’s non-affiliated firm inspection program, said that many smaller firms continue to struggle with matters relating to audit committee communications. As an example, he cited instances where firms did not document communications with the audit committee regarding going concern. In some cases, the firm did not communicate its audit strategy relating to going concern or that there may have been an issue of substantial doubt. Other firms did not sufficiently document oral communications to the audit committee. These firms are not doing enough to document communications to the audit committee, he said.

Skinner is encouraged by what firms are doing to comply with Form AP, which requires audit firms to disclose the names of engagement partners and other accounting firms that participated in their audits. In particular, he cited the use of practice aides, templates, and tools; establishing training programs; using software that can pre-populate the fields in Form AP; and the use of analytical tools. However, some firms still have not even filed a Form AP yet, he remarked. He warned that firms that do not file a Form AP will be contacted by inspection staff, and if it does not receive a response, the matter could be referred to the Enforcement Division.

Lessons learned from inspections. Gunia gave some tips for firms to keep in mind when facing an inspection. Most important, she said, is that firms should prepare for the inspection. The more prepared a firm is for the inspection, the better the inspection will be, she implored. It is important that firm personnel refresh their memory about the audit work performed in the audit to be inspected. The inspections staff prepares in advance of an inspection so it can hit the ground running, and so should firms. Firms should especially be prepared to discuss their risk assessment procedures, she emphasized.

Clear and timely communication is also critical to an efficient inspection, Gunia said. The audit work papers do not always contain a full explanation, so dialogue with the staff is important to add needed clarity. She also encouraged the use of process diagrams or any kind of visualization aides, which can help communicate how the issuer operates, how the IT systems work, and how the processes of the issuer flow. Regarding remediation, she urged firms to engage early and often with the staff while the firm is in the 12-month remediation period following the issuance of an inspection report.

Skinner also talked about issues that can impede a quality audit. Firms should avoid work paper alteration, the penalties for which can include the revocation of the firm’s PCAOB registration. He highlighted AS 1215, which outlines how to approach an issue when there is a legitimate need to go back and change something in an audit report. He also warned against firms archiving the report more than 45 days after the report release date.

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