Audit Oversight: Strengthening Cooperation While Meeting our Mandates in the Current Environment

Thank you for the invitation to join Commissioner Charlie McCreevy in a discussion of issues affecting auditors and auditor oversight, which continue to be crucial matters on both sides of the Atlantic.  Before I begin, let me say that my remarks today are my own and do not necessarily reflect the views of the PCAOB or other Board members.

Times have changed since I spoke with you last year: Our markets are now in global crisis. At this time last year, warning signs had emerged, but the contagion had not spread beyond subprime mortgages and related instruments. We now understand that we will grapple with this crisis throughout the coming year, if not longer. When it is finally over, there needs to be a thorough post-mortem analysis to scrutinize the various causes -- particularly the structural factors that may have contributed to the crisis -- and an assessment of the positive or negative impact of regulatory and market participant efforts in mitigating the crisis.

As policy-makers and political leaders navigate their way through potential remedies, they will look at possible improvements to the regulatory framework – both domestically and globally. Among other things, I will advocate that any changes to the framework should retain and enhance the supervisory approach to financial institution and auditor oversight, with a focus on enterprise-wide risk management – although clearly there is room for improvement. Equally importantly, as this crisis demonstrates, the global nature of today’s markets demands a framework that emphasizes enhanced cross-border collaboration and cooperation among financial supervisors.

While the crisis is ongoing, many, including the PCAOB, have begun to outline the questions that should be asked in a post-mortem. First, we will need to take a hard look at off-balance sheet entities, underwriting standards, gaps in regulatory coverage, and flawed risk management -- in part, due to what appears to have been a fundamental misunderstanding and mispricing of risk by many financial institutions. This process undoubtedly will lead to regulatory and legislative improvements.

To evaluate the need for any adjustments to our programs in response to the current market conditions, the PCAOB will continue to monitor developments and communicate with our fellow regulators and standard-setters, the audit firms we oversee, public companies, and investors. Auditors face a number of exacerbated audit risks in this environment, and the PCAOB is watching these areas closely. In times like these, it is more important than ever that auditors pay attention to fundamentals, such as adequately assessing and appropriately responding to the risk of misstatement of the financial statements. Open communication about these risks among the members of the audit team, and with client management and the company's Audit Committee, will increase the chances that the risks will be appropriately addressed.

Last week, the PCAOB staff issued a practice alert on potential areas of heightened audit risk – areas of which auditors should be keenly aware and take appropriate measures to address. These areas include -- not surprisingly -- fair value measurement, other-than-temporary impairment, and going concern assessments.

The Current Financial Crisis and International Cooperation

The G-20 summit on the financial crisis held in Washington this November launched a number of work streams to consider potential reforms. While most do not directly affect auditor oversight, we can take some cues from the Summit Declaration. In addition to initiatives related to transparency and accountability, important for this audience, the Declaration also includes a commitment to reinforce international regulatory cooperation.

Auditor oversight bodies should explore how to apply this broader commitment to our realm: Can we enhance our avenues for cooperation and coordination? Are our national frameworks for auditor oversight appropriately consistent? Do these frameworks adequately serve the interest of investors globally? While these are questions that audit regulators have discussed bilaterally and collectively through the International Forum of Independent Audit Regulators (IFIAR), there now is compelling need to enhance these important efforts.

There is no doubt that current events fundamentally underscore the necessity of cross-border dialogue and cooperation. Equally importantly, current events send a clear message that our work must support market integrity and transparency.

While regulators must assure that we fulfill our statutory mandates, these mandates need not conflict with our efforts to better coordinate with our regulatory counterparts. Actions taken by the PCAOB Board last week illustrate this point. The PCAOB Board approved a rulemaking and concept release that would, among other things, defer certain first inspections of foreign firms registered with the PCAOB, in part, to allow more time to coordinate with our foreign counterparts.

Today, I would like to talk briefly about the objectives of this Board action in order to avoid any misunderstanding of the Board’s proposal. Rhonda Schnare, the Director of the PCAOB Office of International Affairs, spoke to you earlier this afternoon about some of the provisions.

The Deferral Rules

First and foremost, the two rules acted on by the Board last week should in no way be viewed as a broad measure to delay PCAOB inspections of registered foreign audit firms. Let me be clear, the amendments would affect only a select number of first-time inspections. Beyond this subset, the amendments do not affect inspection requirements concerning any other first inspections or any second, or later, inspections of firms outside of the United States.

The need to delay certain first-time inspections is a result of the PCAOB’s preferred – and practical - approach to undertaking inspections abroad. The approach appropriately emphasizes the need to coordinate and cooperate with local authorities. Accordingly, the Board adopted a framework in 2004 setting forth how it could work cooperatively with regulatory counterparts. I believe that this approach is in the long-term best interest of investors.

The PCAOB also recognizes that firms outside of the United States can face conflicting local laws, which should be considered. Thus, the Board seeks to work with registered firms and its regulatory counterparts in an effort to resolve potential conflicts of law. The Board has had a good degree of success in this area to date, but, as I am certain you can appreciate, such discussions can be challenging and time-consuming. At the same time, the Board is required by the Sarbanes-Oxley Act of 2002 to conduct inspections of registered firms, including foreign firms, on a regular schedule. Our rulemaking and proposals issued last week reflect the PCAOB’s commitment to meeting that mandate, while we work through this newly chartered territory of global auditor oversight.

The second point I want to make about the deferral rules -- and perhaps most important – is that the Board’s action last week reflected recognition of the need and advantages of allowing appropriate time for the PCAOB to work cooperatively with foreign regulators and is not a negative reflection on our efforts or those of our foreign counterparts. While not without challenges, I would say that our overall approach to inspections outside of the United States continues to be successful. To date, the PCAOB has conducted 123 inspections of registered firms located in approximately 24 foreign jurisdictions. We have achieved this through joint inspections with counterparts where possible and performed PCAOB-only inspections where counterparts did not yet exist. The program continues to grow as do our working relationships with foreign audit oversight bodies, many of which are represented here today.

Forging productive relationships with our regulatory counterparts and coordinating inspections abroad continue to be guiding principles for our international inspection program. We will continue to prioritize the need to coordinate required inspections and synchronize inspection schedules to the greatest extent possible.

Related to these deferral rules, the Board also proposed for comment on December 4 a few additional measures, including whether it should publish the names of firms that have not been inspected by the PCAOB within the timeframe that investors could reasonably have expected. I am particularly interested in comments on this possible action, so that the Board can fully appreciate the benefits that it might offer as well as any unanticipated impact it could have on investors, issuers, audit firms, and foreign jurisdictions.

Proposed Related Actions

All of that said – we understand that, even with these one-time deferrals of some 2008 and 2009 inspection deadlines, it is possible that some registered firms still may express reservation about PCAOB inspection requirements because they may be concerned about the risk of violating some aspect of their local law.

We have given this considerable thought. In light of the Board’s statutory obligation and authority to conduct those inspections, firms registered with the PCAOB must be aware of their obligation, under the Sarbanes-Oxley Act and PCAOB rules, to cooperate in an inspection. In instances where a registered firm refuses or unduly delays complying with a Board request for information, the PCAOB may impose various disciplinary and remedial sanctions, including revoking registration. These proposed alternative actions are outlined in the Board’s release, and again, we are very interested in your input on the proposed measures.

As part of the proposal, the Board also recognizes that refusal to provide information based on legal restrictions of foreign jurisdictions involves unique circumstances. Therefore, the Board is seeking public comment on how a conflict of law concern should be factored into the Board’s consideration of an appropriate sanction in these situations. This is an important and complex issue, and I look forward to your thoughtful and careful consideration of this topic during our comment period.

Full Reliance

Last year, at this same meeting, I outlined the provisions that would be included in the PCAOB proposed policy statement on full reliance that was then issued on December 19, 2007. Some of you – including our colleagues from the European Commission – may ask how the Board’s December 4 action comports with the proposed policy statement. The answer is simple – they do not conflict.

The actions considered by the Board last week reflect measures involving a discrete area of the PCAOB’s international inspection program. The full reliance proposal – where the PCAOB set forth proposed criteria upon which it could consider relying to the fullest extent possible on the inspection work of a foreign regulatory counterpart – is a separate initiative. The Board continues to carefully consider the comments received on this proposal – including those received during its June roundtable on the subject - which communicated a wide array of views. I hope that we will be in a position to move toward a final statement early next year.

Building relationships with other audit regulators – while not void of challenges -- has worked well, and the PCAOB remains fully committed to working closely with our counterparts. I imagine, as the larger firms continue to merge their operations into regional hubs, the ability of auditor oversight bodies to closely cooperate will become even more essential. We must continue to build the infrastructure for cross-border cooperation.


Confucius may not have been contemplating a global financial crisis when he prophetically suggested, “May you live in interesting times.” These “interesting times” will be with us in the short- and perhaps medium-term, but hopefully, it will not be long before we can look at this crisis through our rear-view mirror. Until then, we must settle down and find ways – at times, creative ways -- to enhance collaboration to fulfill our important mandates.

These are indeed interesting times. Beyond the financial crisis, we, in the United States, also are preparing for a new President and a change in Administration. Some may ask how this will affect the PCAOB, which in not itself a governmental agency. Because we are subject to the careful oversight by the U.S. Securities and Exchange Commission, the most immediate impact on the PCAOB will be determined by whom President-Elect Obama should chose to be the next chairman of the SEC. Second, whom the SEC Chairman chooses to be the next chief accountant will also be important for the PCAOB, as it will be for public company auditors. We are working with the incoming Administration and will reach out to the new SEC team when it takes office to gain insight from them into a number of significant policy areas.

In the coming year, the PCAOB will explore a number of the recommendations made by the Department of the Treasury’s Advisory Committee on the Audit Profession this year, which include taking a fresh look at the auditor’s report, assessing the nature and structure of a national fraud center, considering additional transparency reporting, and evaluating the feasibility of identifying meaningful indicators of audit quality. You will be interested to know that our review of additional transparency reporting requirements will take into careful consideration the EU’s reporting requirements in Article 40 of its Eighth Directive.

I look forward to January, the U.S. Administration transition, and, ultimately, to turning the corner away from the current financial crisis.

Thank you for your time today.

Related Information