Board Announces Four-Point Plan to Improve Implementation of Internal Control Reporting Requirements

The Public Company Accounting Oversight Board today announced a four-point plan to improve auditors’ implementation of the internal control reporting provisions of the Sarbanes-Oxley Act of 2002.

“During the past year, we have heard nearly unanimous agreement that effective controls of a public company’s system of financial reporting protect investors,” said PCAOB Acting Chairman Bill Gradison. “We have also heard, however, that some refinements to the existing requirements would reduce the costs associated with internal control reporting while maintaining the benefits to investors.”

Section 404 of the Sarbanes-Oxley Act requires public companies to annually assess and publicly report on the effectiveness of their internal control over financial reporting. PCAOB Auditing Standard No. 2, An Audit of Internal Control Over Financial Reporting Performed in Conjunction with An Audit of Financial Statements, establishes the professional standards for auditors when conducting an audit of internal control over financial reporting.

In a continuation of its efforts to assist with the implementation of Auditing Standard No. 2, the Board will undertake four initiatives:

1. Amend Auditing Standard No. 2. While preserving the principles of Auditing Standard No. 2, the Board plans to consider amendments that would ensure that auditors’ primary focus during an integrated audit is on areas that pose higher risk of fraud or material error. The amendments to be proposed would reinforce the Board's expectation that the integrated audit be conducted in the most efficient manner, while achieving the objectives of the standard, by incorporating key concepts contained in the guidance issued by the PCAOB on May 16, 2005. The Board also plans to revisit and clarify the auditor's role, if any, with respect to evaluation of the process that a company uses to reach its own conclusion about the effectiveness of company controls.

Additional amendments to Auditing Standard No. 2 being considered by the Board include:

• Clarifying the definitions of significant deficiency and material weakness in internal control;
• Reconsidering the “strong indicators of a material weakness” to allow for more judgment in determining whether a deficiency exists;
• Guiding auditors to increase their use of the work of others where appropriate;
• Clarifying materiality and scoping decisions;
• Emphasizing the integration of the audit of internal control with the audit of the financial statements; and
• Allowing for and promoting auditors’ use of experience gained in previous years’ audits to focus and make most efficient the work in subsequent years.

The Board will establish an effective date for any amendments that would minimize any unnecessary disruption to on-going audits of internal control and would not hinder auditors’ current efforts to fully implement the May 16, 2005, guidance.

2. Reinforce auditor efficiency through PCAOB inspections. As the Board described in a statement issued May 1, 2006, the Board’s 2006 inspections of registered public accounting firms will focus on the firms’ efficiency in conducting internal control audits, as emphasized in the Board’s May 2005 Policy Statement. The Board welcomes the SEC’s announced intention to inspect its inspectors’ implementation of the Board’s May 2006 statement.

3. Guidance and Education for Auditors of Small Companies. The Board plans to develop or facilitate development of implementation guidance for auditors of smaller public companies. In addition, the Board plans to explore various means of facilitating opportunities for auditors of smaller public companies to obtain effective training on auditing internal control over financial reporting.

4. Continue PCAOB Forums on Auditing in the Small Business Environment. As previously announced, the Board will hold a total of eight forums during 2006 for the auditors, directors and financial officers of smaller public companies. In addition to providing general education about PCAOB issues, the Board will use these forums to monitor real-time reaction to the various internal control-related implementation changes that are announced throughout the year.

“Our mission is to protect the interests of investors and the public in the reliability of audited financial statements,” said Acting Chairman Gradison. “Internal control over financial reporting plays a significant role in enhancing this reliability. Now that many companies have had two years of experience implementing the Act’s internal control reporting requirements, the Board is in a good position to evaluate how to make the auditor’s involvement as efficient as possible, without sacrificing the benefits we have already begun to see. To promote the long term sustainability of the internal control reporting process, we will work to eliminate costs that are unnecessary to achieving those benefits.”