Monday, January 04, 2010

PCAOB Internal Report Reveals Significant Challenges to Board's International Inspections Program

An internal report transmitted to the SEC reveals that the PCAOB’s international inspections program faces significant challenges, including accountability, delays in conducting inspections, and inconsistent documentation. These challenges were compounded by widely-reported audit failures outside the U.S., coupled with internal concerns regarding the manner in which international inspections were being performed, causing the Board to reassess its non-U.S. inspection program. The report was prepared by the Board's Office of Internal Oversight and Performance Assurance.

The Board's reassessment of its non-U.S. inspections program has resulted in significant changes in the manner in which these inspections will be performed in the future. For example, the Board has recognized the need to increase its focus on the quality control mechanisms of large, global audit firms, sometimes called global audit networks, as well as on work performed by non-U.S. audit firms other than the firm signing the audit report.

Further, the Director of the Division of Registration and Inspections has initiated changes to the international program, including creating a national office structure for the program; taking initial steps to establish greater staff accountability for international inspections work, and assessing the need for additional resources, as well as revising significantly the international inspections methodology. According to Acting PCAOB Chair Dan Goelzer, these steps are critical to addressing the concerns raised by the internal report and putting Board inspections of non-U.S. audit firms on a more equal footing with those of U.S.-based firms.

As of August 2009, 919 non-U.S. firms were registered with the PCAOB. The Division determined that of this number, 235 had a triennial inspection requirement. A total of 51 foreign countries or jurisdictions had at least one firm requiring triennial inspection. There are no registered foreign audit firms with more than 100 issuer clients which, under Sarbanes-Oxley, triggers annual Board inspections. Thus, all of the PCAOB-registered foreign audit firms are on a three-year inspection cycle.

Sarbanes-Oxley requires that foreign firms playing a substantial role in the preparation of audit reports should be treated as public accounting firms for purposes of Board oversight. PCAOB rules define playing a substantial role in the preparation of an audit report to mean performing material services that a public accounting firm uses in issuing all or part of its audit report or performing the majority of the audit procedures with respect to a subsidiary or component of an issuer the assets or revenues of which constitute 20 percent or more of the consolidated assets or revenues of the issuer.

The report found that inconsistencies as to approach and documentation of foreign audit firm inspections may already have put the Board at a disadvantage should the need arise to defend the methodology applied to completed inspections. Further, the full extent of risk associated with foreign firms and issuers remains a point of debate that PCAOB staff is only beginning to quantify, relying, in part, on technology systems still in development. Subsequent to the field work for the internal report, the Division revised its 2009 schedule by moving forward a number of inspections originally scheduled for 2010-2012.