Sunday, July 01, 2012

Former SEC Chair Harold Williams Supports Mandatory Auditor Rotation

Former SEC Chair Harold Williams emphasized his belief in mandatory auditor rotation before a recent PCAOB forum on auditor independence. The former Chair stressed that the auditor’s term under mandatory rotation must be a fixed and secure term under which the auditors would serve whether management liked them or not. If mandatory rotation is undertaken, he recommends that it begin on a limited basis so that the Board and the firms can learn from the experience.

Additional costs associated with auditor rotation are exaggerated, he noted, and to the extent that there are costs, they would be justified. The former SEC official also dismissed concerns that audit quality might deteriorate in the last several years of the departing auditor’s engagement since accepting those concerns would cast serious doubt on confidence in auditor professionalism and suggest a more serious problem than is warranted. Also, he does not believe that such an auditor rotation requirement would reduce the authority and the role of the audit committee.

He noted that any uncertainty around mandatory auditor rotation is due to the international oligopoly of the Big Four accounting firms. Auditing is a profession run as a business, he said, and business oligopolies generally are not inclined to rock the boat in relation to each other. Status quo rather than competition is the name of the game. He questioned if the auditing business would behave any differently.  What would it take, for example, for an auditor coming in to embarrass the one it is replacing. On the other hand, mandatory rotation would provide incentive to middle size firms to develop their capabilities to serve larger clients. In turn, if successful, this would enlarge and destabilize the Big Four oligopoly. In this sense, mandatory rotation would promote competition.

PCAOB Member Steve Harris quoted from the testimony of Chairman Williams before the Senate Banking Committee on February 12, 2002 during the run-up to the enactment of the Sarbanes-Oxley Act in which he urged the SEC to consider a requirement that a public company retain its auditor for a fixed term with no right to terminate. This could be for five years or perhaps the Biblical seven. After that fixed term, the company would be required to change auditors. Consequently, the auditor would be assured of the assignment and thus would not be threatened with the loss of the client and could exercise truly independent judgment.

On a separate issue, Chairman Williams doubted the capability of the audit committee to address the issues of lack of auditor professional skepticism, bias, and lack of independence. While recognizing that many audit committees have been doing a great job in discharging their responsibilities under Sarbanes-Oxley, he said that a vigilant audit committee, discharging its responsibilities under Sarbanes-Oxley, would not have discovered the lack of skepticism, bias, and lack of independence identified in the PCAOB audits, at least not systemically. If the relationship between management and auditors is harmonious, let alone cozy, he asked, how can the audit committee effectively probe behind it. He cautioned not to expect the audit committee to intercede and become the referee between the audit firm and the client.