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SEC and PCAOB Leadership Announce Potential Relief to Companies Affected by the Coronavirus

Yesterday, senior leaders of the Securities and Exchange Commission (SEC) and the Chairman of the Public Company Accounting Oversight Board (PCAOB) issued a joint statement (Statement) noting the potential effect that the coronavirus (COVID-19) may have on reporting companies, reminding companies of their disclosure obligations and notifying companies affected by the virus that they may contact the SEC for guidance or a determination of their eligibility for relief from filing deadlines. The Statement comes in the wake of numerous articles contemplating the virus’ effect on businesses that rely on global supply chains. On Tuesday, one Wall Street Journal commentator posited that “the coronavirus could cause supply-chain disruptions that are unlike anything we have seen in the past 70 years.”
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PCAOB Adopts Requirement to Disclose Critical Audit Matters in Auditor Reports

Dear Audit Committee Member: 

Yesterday, the PCAOB decided to adopt a new auditor reporting standard that includes the communication of critical audit matters (CAMs).  The rules are subject to approval by the SEC.   

A lengthy runway is provided before full compliance is required.  Provisions other than those related to CAMs will take effect for audits for fiscal years ending on or after December 15, 2017.  If your company is a large accelerated filer, provisions related to CAMs will apply starting with the audits for fiscal years ending on or after June 30, 2019.  This means that a fiscal year-end large accelerated filer may first have CAMs included in the auditor report filed with the Form 10-K for the year ended December 31, 2019.   
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Significant Changes to the Auditor’s Report Considered by the PCAOB at Open Meeting

Six years after the initial concept release, the PCAOB announced that it will hold an open meeting next Thursday, June 1, to consider adopting standards on the auditor’s report and proposing updated requirements for auditing accounting estimates and an auditor’s use of the work of specialists.

In 2013, the PCAOB proposed rules to require the inclusion of critical audit matters (CAM) in the auditor’s report. After a public comment period and several roundtables that criticized the overly broad scope of CAM, the rule was repurposed in May 2016, as we described here.

The 2016 proposal modified the prior definition of CAM by adding a materiality standard, limiting the source of potential CAM and narrowing the definition.
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PCAOB Reproposes Standards on Critical Audit Matters, Tied to Audit Committee Communications, and Adds Tenure Disclosure to Auditors’ Reports

When it first proposed disclosure of critical audit matters in auditors’ reports back in August 2013, the PCAOB faced an outcry. Now the regulator is making a second attempt, emphasizing how its revised proposal reflects responses to public comments and additional outreach.

Under the proposal, auditors’ reports must include any critical audit matters arising from the audit, but the definition of such matters have been refined. It covers any matter that was communicated or required to be communicated to audit committees and that (a) relates to accounts or disclosures that are material to financial statements and (b) involved especially challenging, subjective, or complex auditor judgment.
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PCAOB Adopts Rules Requiring Names of Engagement Partners and Other Firms Involved

Yesterday, the PCAOB adopted new rules to require auditors to disclose the name of the audit engagement partner. The rules are subject to approval by the SEC, and will be effective for auditor’s reports issued on or after January 31, 2017, or three months after SEC approval of the final rules, whichever is later. For disclosure of other audit firms participating in the audit, the requirement will be effective for reports issued on or after June 30, 2017.

A new PCAOB Form AP, Auditor Reporting of Certain Audit Participants, must be filed for each issuer audit, disclosing:

  • The name of the engagement partner;
  • The names, locations, and extent of participation of other accounting firms that took part in the audit, if their work constituted 5% or more of the total audit hours; and
  • The number and aggregate extent of participation of all other accounting firms that took part in the audit whose individual participation was less than 5% of the total audit hours.

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PCAOB Proposes New Public Form to Disclose Audit Engagement Partner and Issues Concept Release on Audit Quality Indicators

The PCAOB is asking for public comment on whether to require audit firms to file a new form to make public the name of the engagement partner and information about other participants in the audit. This is viewed as a “middle ground approach” to balance investors’ requests for the information with audit firms’ concerns about increased liability risks, and replaces the original idea broached in December 2013 to require that the engagement partners’ names be included in the auditors’ reports filed on Form 10-K.  Comments are due by the end of August.

PCAOB Form AP (Auditor Reporting of Certain Audit Participants) would be publicly available on the PCAOB’s website in a searchable format, by engagement partner and by company.
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PCAOB Highlights Issues for Audit Committees

In the first of what is promised to be a series, the PCAOB issued a communication to audit committees to highlight key areas of recurring concern in PCAOB inspections of large audit firms and emerging risks to audits. This Audit Committee Dialogue includes questions that the PCAOB encourages audit committees to ask their auditors. 

The biggest issues continue to be the auditing of internal control over financial reporting (ICFR) and assessing and responding to the risks of material misstatement. On ICFR, the PCAOB inspections often found that an auditor did not perform sufficient procedures to test the effectiveness of controls, and where deficiencies were identified, sometimes the auditor did not sufficiently evaluate whether they constituted material weaknesses.
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PCAOB Plans to Re-Propose Standard Governing Critical Audit Matters in Auditors’ Reports

According to a recent speech by PCAOB board member Jay Hanson, the PCAOB is evaluating the comments they have received on their proposal to add a discussion of “critical audit matters” to an auditor’s report, which we discussed in this September 2013 client newsflash.

Hanson stated that a re-proposal of a standard governing the auditor’s report is expected later in 2015, which is likely to result in a “narrower, more focused” requirement that would cover “only the most relevant information about the audit.”

In the comment letters the PCAOB received, some suggested that the requirements do not go far enough, while others believe that most of the matters would be duplicative of disclosures already in financial statements or MD&A. 
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PCAOB Addresses Concerns of Audit Committees and Expected Releases for 2015

Jay D. Hanson, a board member of the PCAOB, recently spoke about the PCAOB’s efforts to address issues raised by audit committees.  

The board of the PCAOB began its outreach to audit committees in 2012, and has heard that audit committees are concerned about the PCAOB adding to their already overburdened set of responsibilities.  Audit committees would also like to learn about trends and concerns from the PCAOB as they occur rather than after the inspection reports are released, given that by then those reports cover audits that are almost two years old. 

The PCAOB is seeking to include in each inspection report information that may be relevant to the audit committee of the company, regarding what actions the committee may want to consider taking in response. 
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Why Your Auditors May Be Asking Your Board About Related Party Transactions and Executive Compensation

The SEC has approved Auditing Standard No. 18, adopted by the PCAOB in June. The standards become effective for audits of financial statements for fiscal years beginning on or after December 15, 2014, including for emerging growth companies (ECGs).  

We previously discussed the three areas of focus for Auditing Standard No. 18 in a prior post. Related party transactions, significant unusual transactions and financial relationships and transactions with executive officers (such as executive compensation and perks) will be under increased scrutiny. The new auditing standards subject these types of transactions to additional risk-based procedures that are designed to assist the auditors in identifying red flags that may cause material misstatements.
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PCAOB Adopts New Auditing Standard for Related Party and Other Transactions

On June 10, the PCAOB adopted Auditing Standard No. 18, which covers three key areas of increased risks for material misstatements: related party transactions, significant unusual transactions and financial relationships and transactions with executive officers. The PCAOB indicated that its inspection and enforcement activities found continuing weakness in auditors’ scrutiny of these areas, and the new auditing standard requires additional risk-based procedures that are designed to assist the auditor in identifying red flags. The changes also affect auditor’s communications with audit committees.  Subject to SEC approval, the standards will become effective for audits of financial statements for fiscal years beginning on or after December 15, 2014.
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Recent PCAOB Developments on Proposed Standards

On April 2-3, the PCAOB will host a public meeting, available via webcast, to discuss its proposal from August 2013 to include additional information in the audit report as noted in our client memo. Panelists and specific topics have not yet been announced, but is expected to include senior executives and audit committee chairs from companies.

In addition to our comment letter, major companies weighed in to debate the usefulness of the inclusion of “critical audit matters” in the audit report. Microsoft’s audit committee expressed concern that the requirement could restrict the communication between the auditor and audit committee, provide too much information to be useful given the broad scope of the term and confuse investors if the matters cited are different than those the company discloses.
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PCAOB Wants Individual Engagement Partners Named in Audit Reports

An idea that began in 2005, made its way into a concept release in 2009, and became a proposed rule two years later, has just been reproposed by the PCAOB. The regulatory agency has issued a release requiring disclosure in the auditor’s report of the name of the engagement partner and the names, locations, and extent of participation of other independent public accounting firms that took part in the audit and the locations and extent of participation of other persons not employed by the auditor that took part in the audit.

Companies should be aware that the PCAOB believes this information can be important to shareholder investment decisions, as well as shareholder votes to ratify a company’s auditors.
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