Friday, July 08, 2022

PCAOB’s 2022 inspections program will factor in SPACs, supply chain disruptions, and market volatility

By John Filar Atwood

The PCAOB released an overview of its plans for audit inspections this year, indicating that it expects to address audit risks driven by the current economic environment. That includes increased SPAC-related and other M&A activity, widespread disruptions in supply chains, and increased volatility in financial and commodity markets due to interest rate fluctuations and inflationary trends, the Board said.

As always, the inspections also will focus on audit firm-wide risks. In 2022, the PCAOB staff expects those to include the increase in staff turnover and risks arising from auditing in a remote environment, including the risk that auditors will not properly identify misstatements that could be material.

Fraud risks. In the report, the PCAOB noted that the current economic environment may increase fraud risks for public companies. Accordingly, the staff expects to emphasize ensuring that audit procedures address the risks of material misstatement, including the risk of fraud at companies due to the accounting complexities, significant judgments, and changes involved in audits of financial statements and internal controls. In this regard, the staff plans to select for inspection audits of public companies in industries such as banking, energy, and information technology where the audit risks due to the complexity and judgmental nature of the financial statement accounts and related internal controls are inherently higher.

The staff will continue to focus on an auditor’s assessment of fraud risk when planning and performing the audit. This will include inspecting whether the auditors performed an assessment of whether the company’s controls sufficiently prevent, deter, detect, and mitigate the identified risks of fraud, including the risk of management override. It also will include ensuring that any deficiencies identified in the company’s controls were evaluated to determine whether the control deficiency was indicative of a fraud risk factor, and that procedures were performed to address the identified fraud risk and any other fraud-related matters.

IPOs and M&A. The staff noted that there have been increased levels of financing activities through IPOs, in both traditional and SPAC formats, in recent years. This presents increased financial reporting and audit risks due to the complexity of the transactions and the degree of the subject company’s readiness and ability to comply with the financial statement reporting and internal control requirements for publicly held companies, the staff said.

For SPAC and de-SPAC transactions, the staff plans to select focus areas to address the auditor’s work on the valuation of financial instruments using complex valuation models, the determination of whether a business combination should be accounted for as a reverse merger, and internal control over financial reporting. It also will examine financial statement presentation and disclosures, and restatements related to warrants or other issues.

Personnel challenges. The PCAOB acknowledged that audit firms are currently experiencing challenges in attracting and retaining skilled personnel. In some instances, firms have chosen to use personnel from other lines of business, affiliated member firms, and/or contract auditors. Other firms have chosen to try to attract and hire experienced auditors.

In this regard, the staff will review the policies and procedures that audit firms have implemented to assign professionals with appropriate qualifications to audit engagements. It also will examine whether audit firms are modifying the nature and extent of their supervision and review procedures appropriately. The staff intends to select for inspection engagements where the lead engagement partner is new to the engagement, including those resulting from partner turnover and/or unplanned partner rotations.

Critical audit matters. The staff stated that it will continue to focus on the implementation of critical audit matters (CAMs) by triennially inspected audit firms, noting that for some firms 2022 will be the first inspection since the implementation of CAMs. According to the report, the inspections will include engaging in discussions about CAMs with engagement teams and certain audit committees, and reviewing communications of CAMs in the auditor’s report. The staff also will review whether certain matters communicated to the audit committee were included in the audit firm’s procedures to determine CAMs, and may review the engagement team’s determination of matters as a CAM.

Key reminders. In the report, the staff provides certain reminders for auditors in advance of the upcoming inspections. Foremost among them is a reminder that the risks posed by Russia’s invasion of Ukraine should be considered this year.

As the situation evolves, auditors should remain aware of the potential for economic issues that could affect Ukrainian companies, their suppliers, and others, the staff said. It noted that auditors may be faced with certain challenges in completing audits of affected companies, in some cases because obtaining sufficient appropriate audit evidence to support the auditor’s opinion on the financial statements may take longer or require more audit effort than under normal circumstances. However, auditors are still required to comply with PCAOB standards and exercise due professional care and professional skepticism, the staff stated.

The staff also reminded auditors to:
  • Exercise professional skepticism in evaluating the reasonableness of management’s representations, estimates and forecasts, due to the uncertainty and volatility of the economic environment;
  • Consider whether the remote or hybrid working environments at public companies and broker-dealers creates new or increased risks of material misstatement, including any fraud risks;
  • Remain alert to changes in a company’s, the broker-dealer’s, or the auditor’s circumstances which may give rise to situations that could impair auditor independence;
  • Consider implications arising from the current economic environment while performing procedures for acceptance and continuance of clients and engagements; and
  • Consider the nature of the public company or broker-dealer, the risks of material misstatement, and each audit engagement team member’s knowledge, skill, and ability when assigning work to engagement team members and determining the necessary extent of supervision.