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 Statement on Proposed Amendments to Improve Transparency Through Disclosure of Engagement Partner and Certain Other Participants in Audits 

DATE: Oct. 11, 2011 
SPEAKER: Steven B. Harris, Board Member 
EVENT: PCAOB Open Board Meeting 
LOCATION: Washington, DC 

Thank you, Chairman Doty.

I support today's amendments. As others have pointed out, these amendments are designed to benefit investors by providing much needed additional transparency about key participants in the audit — the engagement partner and other independent public accounting firms and persons who took part in the audit.

Today, an audit report typically contains no information about who served in the role of engagement partner or whether the firm issuing the report actually performed all of the audit work. The proposed amendments would remedy that by requiring the disclosure in the audit report of both the name of the engagement partner and the names of other independent public accounting firms and persons that took part in the audit and the extent of their participation.

Equipped with this information, investors would have the ability to search our website for the names of any engagement partner's public company clients and any PCAOB publicly available disciplinary actions against that engagement partner. Investors also would be able to determine whether a firm that participated in the audit is registered with the Board and has been subject to PCAOB inspection and whether a disclosed firm or person has had any publicly available disciplinary history with the Board or other regulators.

Disclosure of the Engagement Partner

With respect to the disclosure of the engagement partner, I believe investors will benefit not only from the additional transparency into the audit, but also from an engagement partner's heightened sense of personal accountability for the work performed.

The Board's inspection findings demonstrate that there is still significant room for improvement in compliance with PCAOB standards, including those standards that require auditors to perform the audit with due care and professional skepticism. In my opinion, additional disclosure will be an incentive for better engagement partner performance and, as a result, improved audit quality.

An Engagement Partner Signature Requirement

While I support an identification of the engagement partner, I continue to strongly support, and would have preferred, a requirement for the engagement partner to actually sign his or her name on the audit report. My views, which I stated when the Board last publicly discussed the issue in July 2009, have not changed.

Very fundamentally, I believe that nothing focuses the mind quite like putting one's individual signature on a document.

Increasing "accountability" was an underlying principle of the Sarbanes-Oxley Act. This resulted in, among other things, the adoption of the principal executive officer and the principal financial officer certification requirements under Section 302, which were authored by former SEC Chairman Harvey Pitt and supported by the Bush Administration.

Today, company officers must sign their names not only to 302 opinions but also to other forms and reports filed with the SEC. Further, a majority of the board of directors must sign their names to their company's Form 10-K, and lawyers must sign their names to a variety of documents filed with regulators and courts.

I see no compelling reason not to follow the same approach that is used for CEOs, CFOs, board members, and lawyers (and for that matter, by virtually all professionals) by having audit engagement partners sign their names to the reports that have been prepared under their supervision.

I am not alone in seeing the benefits of increased accountability. Many others have supported an engagement partner signature requirement. For example:

The comment letter from Jonathan Urick of the Council of Institutional Investors states, "Requiring the engagement partner to sign the audit report will enhance audit quality and investor protection by strengthening auditor accountability and improving the transparency of the audit process." (September 4, 2009)

Arnie Hanish, Vice President of Finance and Chief Accounting Officer of Eli Lilly & Company said at a meeting of the Board's Standing Advisory Group, "You get different behaviors when somebody has to put their name on something". (February 16, 2005)

At a subsequent SAG meeting, Janice Hester Amey, Portfolio Manager for the California State Teachers Retirement System said, "The simple step of requiring the audit partner to sign the audit report will, [we believe] increase ownership of the audit by the audit team, a concept that will certainly help investors gain confidence in the quality of audits." (October 23, 2008)

At a meeting of the Board's Investor Advisory Group, Robert Tarola, President of Right Advisory LLC, said, "I signed about a thousand audit opinions in my career. The first time I signed an officer certification, I was really worried. It is a different feeling when you're signing your own name." (May 4, 2010)

And, most recently the Board heard from Carson Block, Chairman and CEO Muddy Waters Research, who wrote, "As an investor who has invested considerable amounts of money in China, and in the process helped to identify Chinese frauds on US exchanges, I support your initiative. However, I believe that engagement partners should not only be identified, but should also be required to sign the audit reports. I believe that identification of the audit engagement partner — particularly with his or her signature — will decrease investors' future losses to fraud and gimmicky accounting by billions of dollars … The more public an engagement partner's ownership of an audit is, the more he or she is incentivized to be diligent." (October 7, 2011)

I share in these sentiments that when someone signs their own name to a document, they feel a special and ultimate responsibility for that work.

Harry Truman had a sign on his desk while he was President: "The Buck Stops Here!" I have always respected that saying and his willingness, as a leader, to step up and accept direct, individual responsibility. I remain hard pressed to understand why engagement partners are so resistant and unwilling to do the same.

I would also point out that the European Union already requires the signing of the audit report. Article 28 of the Eighth Company Law Directive issued by the European Parliament in 2006 provides that "[w]here an audit firm carries out the statutory audit, the audit report shall be signed at least by the statutory auditor(s) carrying out the statutory audit on behalf of the audit firm."[1] Moreover, even before the Eighth Directive, some countries in Europe already required the engagement partner to sign the audit report.

Liability Issue

As for increasing the liability of the engagement partner, I agree with the comments of Gus Sauter, Chief Investment Officer and, Managing Director, the Vanguard Group, Inc. who stated at our Investor Advisory Group meeting in May 2010:

"… about signing the audit report. I think that's a fine idea … the lead auditor already has the financial liability associated with putting their signature on there anyway. So you have to ask yourself why wouldn't they sign it?" (May 4, 2010)

Mr. Chairman, as I previously indicated, while a signature requirement would have been my preference, I commend you for your leadership in finally bringing before the Board these proposed amendments. The Board first discussed an engagement partner signature requirement more than six years ago at a meeting of its Standing Advisory Group in February 2005. The Board has since discussed it four additional times at meetings of its advisory groups. The U.S. Treasury's Advisory Committee on the Auditing Profession ("ACAP") recommended three years ago that the Board impose an engagement partner signature requirement, and the Board issued a concept release on this topic more than two years ago. This proposal has been long in coming, and I appreciate your willingness to finally address the issue.

Disclosure of the Engagement Partner in the Form 2 Annual Report

With respect to the disclosure of the engagement partner in Form 2 of the Annual Report: I have long been supportive of including such a disclosure for each issuer client listed by the firm in this Report. I am glad we are addressing that issue as well today. By including this information on the Board's Form 2, and making it readily accessible on our website, investors and audit committees will be able to research information about an issuer's engagement partner, such as other clients the partner serves or any disciplinary history with the PCAOB.

Disclosure of Other Firms and Persons that Took Part in the Audit

As the release points out, investors have specifically requested greater transparency into the extent of the involvement of other auditors in the current year's audit. In particular, surveys conducted by the Chartered Financial Analysts Institute and the PCAOB's Investor Advisory Group strongly support the need to identify other auditors when there is more than one auditor. I support the disclosure of other participants involved in an audit, but I am concerned about the complexity of this aspect of the proposal and I anticipate receiving comments that may help us simplify these disclosures.

Additional Transparency Measures

Before concluding, I want to briefly highlight three other areas where I believe additional transparency is merited.

First, I believe a firm's chief executive officer or lead assurance partner should sign all responses to PCAOB inspection reports. As the Board knows, this is another area where I believe we have been allowing individual partners essentially to hide behind the organizational structures of their firms. Many of the responses the Board currently receives are boilerplate. As a result, I am never sure whether the person setting the tone at the top of a given firm has actually read the PCAOB inspection report or is accepting responsibility for the firm's response.

I believe that requiring the signature of a top official would strengthen our oversight by making that official more accountable and responsible for reacting on a timely basis to PCAOB inspection findings. And PCAOB inspection report findings are increasing, not decreasing. It is my hope that in the near future the Board will take steps towards implementing this type of signature requirement as well.

Second, I believe that the Form 2 annual report should also be amended to require firms to disclose the number of consecutive years that it has issued an audit report for an issuer or broker dealer client. This information would provide an additional layer of transparency with respect to the relationship between firms and their clients that currently is not easily obtainable. Providing it as part of the Form 2 annual report would present little burden to firms, and it would be useful information for investors.

And third, I would like to reiterate my support for the 2008 ACAP recommendation that, beginning in 2011, the larger auditing firms submit audited financial statements to the PCAOB. The co-chairs of that committee specifically recommended that, at least, the largest auditing firms make their audited financial statements available to the public. The co-chairs wrote, "Issuance of audited financial statements provides greater transparency and increases discipline and helps sharpen focus, accountability, and trust. The largest auditing firms play a vital role in ensuring the integrity of our capital markets and fairness requires that if a handful of these firms dominate the public company audit market, they should be transparent and provide a level of financial reporting that is generally comparable to that of the companies they audit."

Many find it ironic that auditing firms in the United States, whose business is providing assurance about the transparency provided by others, resist publicly providing their own financial statements. There is no apparent reason that the auditing firms that act as gatekeepers to our securities markets should not be as transparent to investors as the companies they audit.

Mr. Chairman, I realize these additional transparency measures are not the subject of today's release but I am hopeful that in the future we will consider each of them.

Conclusion

In conclusion, Mr. Chairman, I applaud your leadership in taking up these transparency issues. I would like to reiterate my thanks to Jennifer Rand, Dima Andriyenko and Lisa Calandriello from the Office of the Chief Auditor and Mary Peters and Jacob Lesser from the Office of General Counsel, for their excellent work on this proposal. And, as with all of our proposals, I welcome and look forward to reviewing comments relating to the release we are considering today.


[1] Directive 2006/43/EC of the European Parliament and of the Council (May 17, 2006).

 

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