Enforcement Update

Good Morning.

I know that this will come as a surprise to you, but before I begin my remarks, let me note that the views I express are my own and do not necessarily reflect the views of the Board or Board staff.

It is a real pleasure to be here today with such a diverse group of accounting, auditing and financial reporting professionals. The audit is essential to public and investor confidence in our capital markets.

Speaking at this event every December is one of the highlights of my year. It is a unique opportunity to share with the profession my views on the current regulatory landscape and what the PCAOB's Division of Enforcement and Investigations is doing to promote audit quality and investor protection. However, this is not a one way dialogue. Hearing from you is important to me, as we consider the substance of the messages we are communicating to the profession.

This year, I want to give you a picture of where we've been, a sense of where we are, and a vision for where we are going.

Whether focused on the past, present or future, what has not changed is the Division's mission to protect investors and promote high quality auditing. My remarks today will discuss four priority areas the Division in focusing on in executing that mission. Two of these priorities, professional skepticism and independence, are not new or novel but remain foundational to the value of the audit and as such, a focus area for the Division. I will also be discussing our priorities relating to cooperation and compliance with Board oversight and our focus on the risks cross border audits represent. For each one of these priorities, where there are indications that the professional standards and applicable rules have not been adhered to the Enforcement division will investigate, whether the registered firms be located in the United States or in foreign countries.

Where We've Been and Where We Are

This is an especially opportune moment for reflection because 2014 is the tenth anniversary of the Division's creation, and my tenth anniversary as its Director. I am immensely proud of the Division's accomplishments in its first decade, and I am equally excited about the future.

Since I became the Division's first director, we have grown from four employees to over 60, now based in New York, Washington and Chicago. From the outset, we have focused our resources on enforcement actions that maximize our ability to protect investors. And I believe our work is paying dividends. We have brought cases across the spectrum of audit regulation, from cases involving significant audit failures and independence violations, to proceedings for failing to abide by the Board's annual reporting and fee requirements. Always, our goal is to promote the highest audit quality through accountability and deterrence, and to send powerful messages to both auditors and investors.

Let me begin by discussing professional skepticism. Appropriate professional skepticism by auditors is fundamental to audit quality and to the inherent value of the audit itself. Professional skepticism is the foundation upon which auditors appropriately challenge management's assertions. Auditors must challenge these assertions, otherwise they do not act as an effective deterrence against material misstatements whether due to fraud or something else. Nor will they be able to confirm, with confidence, that a company's financial statements represent a fair and true picture of its operations. Therefore, professional skepticism is a critical component of due care and an essential part of the auditor's mindset. Earlier this year, the Board brought an important case in this area against a former partner at a Big Four firm. The partner ignored or failed to address numerous indicators of improperly recognized revenue in significant unusual transactions, instead relying on management's representations. In parallel matters the Department of Justice successfully prosecuted members of the company's C-suite for fraud and the SEC filed settled fraud charges against the company and several of its executives. In its action the Board barred the former partner from associating with a registered public accounting firm and ordered him to pay a $50,000 penalty.[1] These significant sanctions should serve as a warning to other auditors of the risks of failing to maintain a skeptical stance as to management representations.

Another area that I've discussed here in previous years is the critical role of protecting the integrity of the Board's regulatory oversight processes. Both the Sarbanes-Oxley Act and the Board's rule mandate that registered firms and associated persons cooperate with Board inspections and investigations. Cooperation and compliance with Board orders are essential to the Board's oversight of the profession. For that reason, the Board has consistently taken enforcement action against conduct that threatens the effectiveness or integrity of its regulatory processes. Over the last two years the Board has sanctioned nine different respondents, including permanently barring some individuals, for failing to cooperate with either an inspection or investigation. In addition, the Board has taken action to secure the integrity of its disciplinary actions, including the imposition of a $2 million penalty on a Big Four firm for permitting a former partner of the firm to associate with the firm while the former partner was subject to a Board-ordered suspension.[2]

Our current investigative inventory suggests that we have succeeded in sending a message about the importance of protecting the Board's processes as we now are seeing fewer instances of non-cooperation. While I would never declare victory in this area and we will remain vigilant, I would expect to see fewer cases involving this type of non-cooperation in the future.

Our program will continue to focus on areas where we believe we can send important investor protection messages and promote audit quality.

Globalization of the Audit

Auditing is an activity that by necessity, occurs across borders. As the largest corporations in the world have become increasingly global, so has the audit. Even in the case of audit reports signed by U.S. audit firms for their largest public company clients, much, if not most, of the audit is done outside the U.S. While the benefits of globalization to capital formation and investment opportunities are significant, globalization also introduces unique audit risks. These risks include divergent cultural biases and business norms, inadequate knowledge of U.S. accounting and audit standards, and differing corporate governance practices. Business norms and corporate governance practices that might be deemed appropriate in one place may be improper or even illegal in another. These risks can exist either in both the company's financial reporting and disclosure supply chain and the execution of the audit by affiliated network firms. In our enforcement program, we are keenly focused on the auditors' obligations to address these risks.

While the risk of fraud is present in audits of companies in any region, audit risk is particularly acute in emerging markets. In certain instances local regulatory oversight and reporting requirements may be less sophisticated than in more developed markets, and other aspects of the business environment may not promote investor safeguards that have become standard in more developed regulatory regimes.

In recognition of these risks, in 2011 the Board issued a practice alert concerning the elevated risks presented by emerging markets and how auditors should respond to those risks.[3] Auditors who practice in emerging markets should ensure that they have reviewed the Board's guidance.

Beyond the differences in cultural and business norms, the globalization of the financial markets increases risk to investors in other ways. Investors transacting in securities of non-U.S. companies that trade on U.S. markets may not be aware of the differences in oversight that may affect the risk profile of the issuer. In addition, the global network audit firms are increasingly relying on their foreign affiliates to perform a significant amount of the work in audits of multinational companies. This is an area of particular focus as the Board's inspections have seen an elevated number of inspection findings at many of these global network firms.

In enforcement, we have been very active on the international front. The Board has issued public disciplinary orders against firms and individuals located in several other nations. And while I cannot specifically comment on our inventory of active investigations or on the non-public disciplinary proceedings we are litigating, I can tell you that our enforcement program continues to be very active in looking across borders. We are looking closely at the roles played by the international affiliates of the global network firms in the audits of U.S. listed companies, including audits where the international affiliates may have played a substantial role. You can expect continued growth in the level of enforcement activity involving non-U.S.-based auditors.

We are also working with our colleagues in other divisions and offices of the Board on initiatives to enhance investor protection and promote audit quality in the international arena. Several of the Board's most important standard-setting initiatives, including additional transparency into what firms actually conducted the audit and the use of the work of specialists and other auditors, have particular relevance to multinational audits. We will continue to provide our perspectives on these initiatives as they continue through the standard setting process.

The rise of the global audit has underscored the critical importance of cooperation among international regulators. Where our investigative work takes us across borders, we coordinate with our foreign counterparts as permitted by the Sarbanes-Oxley Act and our agreements on cooperation with those regulators. I expect this cross-border cooperation to continue to be an important feature of our program going forward.

The Division is also deeply involved in the work of the International Forum of Independent Audit Regulators. I am the vice-chairman of IFIAR's Enforcement Working Group, which works to promote stronger coordination in the area of enforcement, enhance investor protection and improve audit quality. Together the Working Group and IFIAR, which is Chaired by Board Member Lewis Ferguson are doing important work to help ensure that audit regulators around the world work and communicate effectively with each other.


Independence, as a high priority for our enforcement program is — I believe — particularly necessary now as audit firms' business models continue to evolve into large multidisciplinary platforms, involving new lines of advisory and consulting businesses unrelated to the audit. It is essential to be vigilant in this area to safeguard the integrity of the audit by ensuring that those who conduct the audit are truly independent.

We view all independence issues in this context. In many cases, the SEC has taken the lead in investigating and taking action against independence violations. However, although I cannot discuss our pending investigations and non-public disciplinary proceedings, we have actively pursued independence violations where appropriate, including proceedings against eight respondents involving prohibited non-audit services, financial interests in or prohibited relationships with clients, and failures to comply with engagement partner rotation requirements.

We also worked closely with the SEC on a significant independence case brought earlier this year. In January, the SEC, with the PCAOB's assistance, brought a settled case against Big Four firm for, among other things, providing non-audit services to affiliates of audit clients.[4] The case also involved the firm's improper loaning of an employee to an audit client and, as a result, the SEC issued a separate report cautioning audit firms that they may not loan staff to audit clients in a manner that results in the staff acting as employees of those companies.[5]

We are also focused on independence issues relating to the auditors of broker-dealers. With the passage of Dodd-Frank, the Board was given oversight of the audits of brokers and dealers registered with the SEC. After three years of interim inspections completed on these audits, the Board continues to see an unacceptably high level of independence findings.

In this area, the Board just announced settled disciplinary proceedings against seven audit firms that improperly prepared the financial statements of a broker-dealer audit client, in violation of SEC independence rules.[6] These cases should clearly communicate the importance of avoiding this kind of impairment of independence. We are continuing to look at potential independence violations among auditors of broker-dealers.

Where We Are Going

Now that I have given you a sense of what we see as some of the most important issues driving our program, I'd like to talk about what we are doing to ensure that our program is keeping pace.

Case identification is the lifeblood of any Enforcement program. We are constantly evaluating potential matters for investigation, with an eye toward maximizing our ability to protect investors and maintaining the integrity of the Board's oversight. To that end, we develop our cases based on a number of sources. One of our most important sources is the Board's own inspections program, and we have ongoing discussions with them on potential enforcement matters. Our Public Source Analysis team monitors and assesses public disclosures in SEC filings, news articles, and other sources to identify potential new cases. The Board's Office of Research and Analysis is also an important partner in our work to stay abreast of issues as — or before — they emerge. We also receive and evaluate tips and referrals from other regulators, such as the SEC and state regulators.

As with all parts of our program, our case identification processes are evolving to match the increasing complexity of the financial markets and the audit profession. We are expanding our analysis of data to identify new cases and make resource allocation decisions. Among other things, we are carefully looking at patterns in the migrations of issuers among auditors to spot potentially problematic firms. We are also looking at information compiled in the Board's registration program to identify inconsistencies between the work reported by firms in their regulatory filings and what we see in issuer filings and other sources. These are only a few of our data analysis techniques that we are developing to enhance our case identification process. Our staff also keeps a close eye on audit and issuer trends, in order to remain ahead of the curve.


I'd like to close with a personal note. This tenth anniversary of the creation of the Division has given me an opportunity to reflect on our growth and our accomplishments. I could not be more proud of the talented and committed professionals who work in the Division of Enforcement and Investigations. Every case we have brought, every message we have sent, every sanction we have imposed, has been a direct result of their hard work. And the same dedication and skill that brought us here will carry us forward into the next ten years, and beyond.

Thank you.

[1] Release No. 105-2014-007 (PCAOB Jul. 7, 2014)

[2] Release No. 105-2013-008 (PCAOB Oct. 22, 2013)

[3] Staff Audit Practice Alert No. 8, Audit Risk in Certain Emerging Markets (2011)

[4] Release No. 34-71389 (SEC Jan. 24, 2014)

[5] Release No. 34-71390 (SEC Jan. 24, 2014)

[6] Press Release, PCAOB, PCAOB Announces Settled Disciplinary Order Against Seven Audit Firms For Independence Violations When Auditing Broker-Dealers (Dec. 8, 2014)

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