Great Professions Do Great Things: Meeting the Public Interest in a Time of Turbulence

Remarks as prepared for delivery

Good morning and thank you Bill [Miller] for the kind introduction and to you and Steve [Mintz] for organizing a full day of important sessions that will provide a wonderful opportunity for learning. It is through events such as this that ideas are presented, discussed, challenged, supported, and tested, which ultimately leads to action and improvement. This is how the audit profession, and by extension society, advance.

Today’s program will cover a wide array of topics that the audit profession, and more directly individual auditors, must grapple with. That is why the research that all of you perform is so critical to the PCAOB, the audit firms, and the entire profession. Your work helps to inform and guide our own research, standard setting, rulemaking, and other policy objectives as we continually strive to protect the investing public and, in the end, strengthen our capital markets.

I must add that I am impressed to see that so many of you were able to muster the strength to attend this session on a Sunday morning. If nothing else, I think we can definitively say that we all share a similar dedication to and enthusiasm for the importance of auditors and the audit profession and the unparalleled role they play in society. I would also like to recognize former PCAOB Chairman Jim Doty and former Board Member Dan Goelzer, who will be panelists at a session this afternoon, as well as several PCAOB interns. I look forward to their thoughts and insights.

Before I continue, please know that my remarks this morning reflect my individual views as a Board Member and do not necessarily reflect the views of the full Board, my fellow Board Members, or the PCAOB’s dedicated staff.

The AAA’s Storied History and Contributions to the Audit Profession

I am delighted to be with you and to have the opportunity to discuss matters that are not only important to the PCAOB but, I believe, of equal importance to the audit profession and the academic community. For nearly three decades, the Annual Ethics Research Symposium hosted by the American Accounting Association has focused on the importance of ethics in accounting and auditing. “Integrity is a fundamental trait of character that enables a CPA to withstand client and competitive pressures that might otherwise lead to the subordination of judgment.”¹ It is integrity and ethics, in many respects, that make auditing a profession rather than simply an occupation, an idea I will return to later.

The value the audit profession provides to the investing public and the capital markets cannot be overstated. This value is based on trust, and that trust is gained, maintained, or potentially lost on a daily basis by the integrity and ethics demonstrated by each member of the audit profession. When auditors fulfill their professional responsibilities, it is a service to society as a whole. Every time I speak in a public venue, I reiterate a simple truth: the audit profession is vibrant, resilient, and noble. I believe that this needs to be continually said and reinforced by members across the profession. The work of the financial statement auditor is simply that important to society and our way of life.

Since its founding over 100 years ago, in 1916, the American Association of University Instructors in Accounting, now known as the American Accounting Association (or AAA), has been at the vanguard of accounting and audit education and research, and is an influential constituency for the profession more broadly. J. Hugh Jackson, the twelfth president of the organization, recognized in 1925 the profession’s promise:

Accountancy, one of the oldest of the arts and newest of the professions, invites every young person of intelligence, of determination, and of vision to enter the profession, and offers in return a life of hard work, of service to business and society and of satisfied living. No profession can offer more.²

From its humble beginnings, today the AAA serves a critical role in the financial reporting ecosystem by being, in its own words, the “premier forum for scholarly interchange in accounting.”³ With seventeen specialized interest sections and seventeen academic journals, the AAA maintains a tremendous platform for the exchange of ideas and innovative research.⁴ Not only do those specialized sections include technical topics like tax and auditing, but also diversity, equity, and inclusion (DEI), gender issues, and work-life balance. These areas are of increasing importance if we wish to continue to attract and retain top talent to the profession.

The AAA and its members work to advance accounting and auditing in many ways. By providing a stage for both empirical and theoretical research, your work offers regulatory bodies like the PCAOB access to crucial insights and perspectives. This research can help inform us on what factors affect audit quality. In addition, AAA members currently play an active role in the PCAOB’s advisory groups, the Investor Advisory Group (IAG) and the Standards and Emerging Issues Advisory Group (SEIAG). When the PCAOB has more useful information off which to base standards and rules, and to consider the implications for our inspections and enforcement activities, we can better accomplish our goals of protecting the investing public and bolstering the capital markets.

As important as your research is, I cannot overstate the AAA’s contribution to education and learning. You are on the front lines of cultivating and encouraging our future auditors. It is no secret that the number of new accounting students has been steadily decreasing, making your responsibility now more important than ever. You are providing the foundation, and inspiration, for our future auditors to begin their careers.

That work involves not only instruction in technical accounting and auditing knowledge, but also instilling in students an ethical framework and sense of professional skepticism. Newly minted auditors need to be taught to avoid “the failure of imagination required to doubt the evidence of their eyes and ears,” and to instead become comfortable asking uncomfortable questions.⁵ Through your efforts, you are supporting a vibrant and resilient profession that will continue to meet the needs of investors and increase audit quality. For that, I thank you and applaud you.

At the PCAOB, we also seek to further the profession by investing in the upcoming generation. A great example of this is our student scholarship program, funded entirely by monetary penalties collected through enforcement activities. The PCAOB seeks students who are likely to become auditors but might choose a different career without the assistance of a scholarship.⁶ As recently announced, I am thrilled that for the 2024-2025 academic year, the PCAOB has awarded scholarships to a record 676 students, up from 369 in 2023. Additionally, the scholarship amount has been raised from $10,000 to $15,000. Participating colleges and universities are encouraged to reach out to students from populations traditionally overlooked by the audit profession, and the results have been remarkable.⁷

Equity Funding – An Ethical Breach with Dire Consequences

Before exploring further the present and future of the audit profession, I would like to reflect on an incident from its past, a time when auditors failed to exercise proper professional judgment, with dire consequences. Historical introspection crystallizes the importance of what we do, and, with any luck, helps us avoid similar blunders. Shakespeare himself warned: “For trust not him that hath once broken faith.”⁸ Dereliction of one’s duty can undo a reputation that took decades to build.

Between 1960 and 1972, Equity Funding Corporation was one of the largest and fastest-growing life insurance companies in the U.S.⁹ The stock price was $6 in 1964, peaking at $80 per share in 1969. In remarks at the New York Society of Security Analysts in 1968, Equity’s CEO boasted that “earnings per share had risen by at least 66 percent a year – every year – since 1962.”¹⁰ The growth appeared exponential. “The CEO gave his underlings one piece of advice: A public company doesn’t lose money. The rest was understood.”¹¹

Equity sold mutual fund shares, which were then used as collateral by customers to purchase life insurance policies. Customers’ ability to obtain mutual fund shares as a bonus to their policies, and the company’s reputation for innovative technology, were key ingredients in the recipe for widespread success.

The mutual fund sales operated on an installment plan. Customers enjoyed having more time to pay, but Equity quickly found itself constantly strapped for cash. The company began to reinsure many of its policies, meaning Equity continued to manage the policies and collect premium payments, but about 90% of the money would go to the reinsurer. When these measures did not solve the cash flow problem, the company began to fabricate life insurance policies and have them “reinsured.”

The phony policies were cleverly constructed, using made up policyholders, premiums, and beneficiaries. Interestingly, Equity’s computer program, the very technology it was admired for, was designed to deceive auditors. The fake policies were linked through a secret code that allowed them to be excluded from selection unless one knew the proper keystrokes. Furthermore, the print function was altered so that policies were listed by a three-digit prefix instead of the full five-digit policy number, making it more difficult for auditors to notice anomalies in the hard copies. None of the auditors ever examined the electronic files.¹²

The fraud was discovered in 1973 thanks to a former employee blowing the whistle. Equity’s stock price plummeted, and it was forced to file for bankruptcy. Key executives faced a plethora of both criminal and civil charges, as did certain of Equity’s auditors. A mandated fraud audit revealed other fraudulent activities, including borrowing cash without recording a liability, booking fake securities investments, and inflation of asset values. The ultimate finding: the company’s assets were overstated by $185 million, $62 million of that being from over 60,000 sham policies.

“The Equity Funding scandal remains a textbook case in accounting fraud and corporate malfeasance. It serves as a cautionary tale about the dangers of unchecked corporate power and the importance of ethical practices in business. The scandal also contributed to the development of more stringent accounting standards and regulatory practices.”¹³

The incident raised serious questions about the role of the auditor. Ray Dirks, the analyst who helped blow the whistle on the fraud, summed it up well: “If routine auditing procedures can’t detect 64,000 phony insurance policies, $25 million in counterfeit bonds, and $100 million in missing assets, what is the purpose of audits?”¹⁴

The investing public needs and deserves reassurance that auditors will detect such fraud, but auditors’ ability to do so is severely undermined if they do not exercise appropriate professional care.¹⁵ It takes patience, courage, and conviction to follow up on what was previously overlooked, and to ask questions others would prefer not to answer. Endowing young minds entering the audit profession with a strong ethical code is just as important, if not more, than providing them with technical knowledge.

In my remaining time this morning, I will focus on three interrelated themes. The first is the PCAOB’s work against the backdrop of financial regulation’s broader objectives. The second is the crossroads at which the audit profession finds itself today. And, third is the role that the profession, and audit firms in particular, can play in writing its own future – what I refer to as the “voice”.

Regulation, the Capital Markets, and the PCAOB’s Role

I begin with the purpose and value of financial regulation. For all its benefits, hindsight can also be a curse. Looking at events like Equity Funding offers the temptation to reverse engineer and figure out the circumstances that would have prevented – or identified – the fraud. Just because a strategy worked in a past circumstance offers no guarantee that it will help avoid the next.

Regulation in any field, but certainly financial regulation, often begins with such postmortems. It is no coincidence that the federal securities laws were drafted in the wake of the Great Depression, nor that the PCAOB itself came into existence following the events of the early 2000s, which shook the world’s audit infrastructure and caused investors to question the capital markets. Trust in the audit was questioned, if not lost. Effective regulation – the type that works, and lasts – takes specific lessons from adversity and forms them into principles to guide policy moving forward.

Let us consider four interconnected objectives that drive regulation of the financial reporting ecosystem: (1) investor protection, (2) structural stability, (3) market competition, and (4) audit quality. I keep these in mind whenever I confront decisions involving our organization’s charge, which has led to me to recognize many places where the entities being regulated have a shared interest and responsibility in supporting these goals.

The first sentence of the Sarbanes-Oxley Act states that the PCAOB was established “in order to protect the interests of investors and further the public interest in the preparation of informative, accurate, and independent audit reports.”¹⁶ Investor protection, then, is the clear place to start.

Seventy-five years ago, four percent of the U.S. population owned stock.¹⁷ Today, the majority of Americans are part of the investor class, having some money invested in the stock market.¹⁸ The value of the equities market has grown exponentially over the years. In 1975, the total market capitalization of listed companies in the U.S. was about $700 billion. Today, it is over $40 trillion.¹⁹

All investment involves risk, but one can lessen that risk through certain strategies, such as diversification. The payoff may be smaller, but it is generally more reliable. It is no surprise then, that those who turn to our capital markets to invest and grow what they have are increasingly adopting a passive investing strategy, where they buy and hold stock, often as part of an index fund, ETF, or similar.²⁰ Passive investors, as a rule, do not pull out their money due to market fluctuations, instead relying on the idea that, in the long term, they will come out better.

Such an approach is only possible with trust: trust that the stewards of the capital markets are fulfilling their duties. This means the regulators, to be sure, but it is the auditors on the front lines offering an independent and critical eye who make sure that the financial statements are being presented to the public accurately and truthfully. Reliable information is the lifeblood of our system, and the surest defense against investor harm. The auditor’s role has never been more important. When auditors do not fulfill their duty, the impact can be devastating.

I mentioned before that when the Equity Funding fraud was discovered, its stock plummeted. However, that was not the full extent of it. The day the Wall Street Journal published its coverage, the New York Stock Exchange as a whole lost $15 billion. The scandal was “cheating of a magnitude so vast, and accomplished with such ease, as to put into question the entire morality by which America conducts its business.”²¹ Investor protection cannot happen in a vacuum, because it is intertwined with investor confidence.

On a broader level, passive investors are also trusting that the capital markets will remain secure. This brings me to the second objective when considering regulation: structural stability. The PCAOB is one of several regulators in the capital markets space. There are many others operating at both federal and state levels. Each entity has its own specific focus, but all labor together to keep things working as steadily as possible.

In our system, structural stability does not begin and end with regulators. Regulators can and do step in when things go wrong, but, I think, we would all agree that it is preferable when things just go right – when companies are forthright in their disclosures, when audit committees identify risks before they turn into issues, and when auditors make sure, year after year, that everything adds up as it should. Regulation is designed to offer incentives for all these players to act in the public interest, but competition offers incentives all its own.

A market with healthy competition means that the various actors within it are incentivized toward excellence. When consumers have options, they can choose based on their personal priorities, and service providers are incentivized to develop in accordance with those priorities. Healthy audit firms, and healthy competition among them, will offer diversity across a number of different axes, since there is not a “one size fits all” for what is wanted. For every company who requires a Big Four audit firm, there are many others for whom smaller firms suit their needs. Healthy audit firms and competition also means that any holes in the market – whether because of the exit of an audit firm or a new need – can be quickly filled. It is not surprising, then, that regulators are often required to keep competition in mind when contemplating their actions.²²

The U.S. capital markets are the envy of the world. International players flock to our markets to both raise and invest money. They do so because of the availability of opportunity, and also because of the transparency and trust the U.S. markets are known for, a trust bolstered by the audits required for every publicly listed company.²³ There is a balance to be maintained here, to be sure. Regulation comes with costs, and if those costs exceed the benefits, or are perceived to do so, those seeking to raise funds, and those seeking to invest, may vote with their feet and find other venues. However, ineffective regulation can risk the trust underpinning the markets in the first place.²⁴

And finally, I end with audit quality. The other factors I have just explored – investor protection, structural stability, and market competition – are points, I believe, any regulator in this space considers. Audit quality, however, is at the center of the PCAOB’s work. It is the compass that guides our focus and a lens through which we assess all we do.

In comparison with the AAA, the PCAOB is a relatively recent entrant to the financial reporting ecosystem. We do not take our role in it for granted, nor do we assume that role is always as clear to other stakeholders. Transparency here, I believe, is critical, and an area of specific focus for our work at the PCAOB as well as the work of the auditor.

What I hope I have conveyed is that the PCAOB, as a learning and thinking organization, is committed to engaging with its stakeholders to successfully execute its mission.

As a Board Member, whenever I am faced with a decision, I endeavor to bring this lens and these purposes to bear. I strive to avail myself of the opportunity to probe all these points further, in proportion to the matter at hand, to make a judgment of the steps to take. This includes soliciting opinions from others with relevant expertise and experience, be they our internal staff or external advisors and other stakeholders.

Our standard setting and rulemaking process is the most obvious example of this. Staff in the Office of the Chief Auditor identify and gain an understanding of a problem or need, and look for the solution that best serves the needs of investors, audit committees, and the capital markets, and that will improve audit quality. We consult with our Office of Economic Research and Analysis to identify the universe of factors to consider in the cost-benefit analysis. We ask questions, probe, and refine. We go through all these internal assessments, make judgments, and offer a proposal encapsulating our best effort.

Our rulemaking process offers transparency for stakeholders to understand what we are doing, and why. Equally important, it allows us to solicit comments from all stakeholders that we can use to decide next steps. These are complicated and difficult projects, where clear right and wrong answers are scarce. For every proposal I have voted on, I have encouraged commenters from “all corners of the page” to contribute and help us arrive at the right answer. Those comments are useful for further refinement before any final adoption occurs.

Similar assessments and judgments happen in inspections, enforcement, and our other activities. For a combination of factors, including statutory confidentiality requirements, much of this is not as visible as our rulemaking. But, that does not mean we do not welcome feedback and comment. I have made it a personal priority to continually meet with interested parties, whether they be investors, audit committee members, preparers, academics, or the firms. These discussions are incredibly helpful as we consider our work at the PCAOB. I have found that the academic community is particularly well placed to offer guidance in these areas, and I have gained tremendous insight from the papers so many of you have been kind enough to share.

The audit firms and the profession must contribute as well. Sandy Burton, who among other roles served as the SEC’s Chief Accountant and the Dean of Columbia Business School, suggested that regulation resembles a grain of sand, and the audit profession an oyster. The regulator introduces those “creative irritant[s]” that stimulate change and innovation in accounting, but it is the creativity and effort of the profession that actually generates the pearls.²⁵ Put another way, regulators can sketch the outline, but audit firms fill in with color and texture.

Our Current Crossroads – A Time of Turbulence

One task regulators confront is remaining vigilant to the threats to audit quality that are evergreen, while at the same time keeping an eye on new developments that may represent emerging or new risks. Again, the academic community has played a key role in this space, and I urge you to keep that focus.

Today, the audit profession, I believe, is at an inflection point due to a confluence of factors from both sides of that equation. As I mentioned earlier, the talent shortage that has reared its head at various points in the profession’s history is again at a peak. The continued evolution of investment vehicles – including Special Purpose Acquisition Companies (or SPACs) and the increasing use of digital assets – offers new opportunities for investors, and potential new audit challenges. Rapid technological advances have the potential to move execution of audits forward in dramatic ways, but can also raise questions about reliability and consistency.²⁶

Specifically, the challenges surrounding both technology and talent converge to make audit firm competition even more salient than usual. Substantial investments in advanced technologies, such as generative artificial intelligence, are being seen as a requirement to allow firms to keep apace with developments with potentially leaner staffing models. Audit firms are also contemplating new and creative ways to provide higher compensation and reward staff so they can continue to attract and retain talent and compete in this environment.

These developments have led some audit firms to consider new and less traditional means to access capital. It is unsurprising that we have seen an acceleration of audit firm consolidations as well as investments from private equity funds.²⁷ In many cases, these changes are leading audit firms to create alternative practice structures. In addition to adding complexities in operations and auditor independence, the new players in the space often do not have the same public interest duties that auditors do, focused instead on achieving shorter term value.²⁸ This raises questions: What should be prioritized when there are goals in tension with one another? Should auditors focus on further developing what they currently have or innovating what might be? Collectively, these factors, I believe, represent a time of turbulence for auditors.

In the face of such turbulence, the future may feel even more uncertain than usual. Will audits in three years’ time be comparable to those we conduct today? Perhaps. But, I am confident that we cannot begin to comprehend from our present perch what an audit ten years from now will look like.

A Professional Voice as the Way Forward

Moving to our last theme, what makes a profession a profession? The term originates from the Latin for “avowal” or “public declaration.” One professes to have expertise in a highly skilled occupation. Medicine, law, and divinity were the professions classically recognized, but the last two centuries have seen many new ones emerge.

There is no single act that turns an occupation or trade into a profession, but there are certain indications. These include formal qualifications obtained through education and training, recognition by government, and establishment of associations and codes of professional and ethical conduct.²⁹

Under these criteria, accounting as a profession is best pegged to the latter half of the nineteenth century. In 1854, Queen Victoria granted the Institute of Accountants in Glasgow a royal charter recognizing accountancy as a profession distinct from that of solicitors. American universities began offering accounting curricula in the 1880s. The American Association of Public Accountants, predecessor to the American Institute of Certified Public Accountants (AICPA), was founded in 1887, and in 1896, the title Certified Public Accountant was established.³⁰

When we label something a profession today, we are speaking about more than a shared set of expertise and fulfilling entry requirements. Professionals are not only trained in certain skills, they are educated in a way of thinking and behaving in their professional capacities. “Passing the [CPA] exam is a necessary but insufficient outcome; meeting the needs of the society’s information rights and the market’s expectations of a learned professional are equally if not more important.”³¹

Many have articulated what an auditor’s way of thinking and behaving should be. Almost all include some aspect of what the AICPA’s Code of Professional Conduct labels “the public interest principle”: “Members should accept the obligation to act in a way that will serve the public interest, honor the public trust, and demonstrate commitment to professionalism.”³² “The accounting profession provides an important public service through audits and other assurance services and those who choose to join the community pledge to act in the public interest.”³³

While many professions have a public interest component, auditors are in a unique position. Doctors have an obligation to their patients, and also to public health. Most of the time, ministering to a patient will serve public health. Lawyers have an obligation to their clients, and also to the rule of law. Again, most of the time, the latter is served by the former. Auditors have an obligation to their clients . . . but also to the public interest. I think many auditors do replace that “and” with a “but.” And rightly so, because that dynamic can create discomfort, which must be navigated. Our professional responsibility to the public overrides that to the company we are auditing.³⁴

In this, the term “client” is not always a helpful one, because it brings with it a misdirection of duty.³⁵ Unlike other professions, the person or entity before us, the one who hires us, instructs us, corresponds with us, and criticizes us, is not our ultimate client. Instead, it is something more nebulous: investors and the public interest. Auditors are first introduced to their duty to the public interest in the classrooms those in this audience lead. It is a concept so crucial and so multifaceted, that it must be continually reinforced.³⁶ One bad audit of a public company, if it shakes public confidence like Equity Funding did, can quickly impact millions. Auditors must keep the public interest constantly top of mind. This means moving the idea out of the classroom into the applied world.

I have titled these remarks, “Great Professions Do Great Things,” because it is true of the audit profession of which I am so honored to be a member. And likewise, great professionals do great things, because individual members of a profession seek out ways to do great things, whether in their first year as an auditor, or their thirtieth.

Regulation plays a role in encouraging ethical professional behavior as well, to be sure. However, regulation can only go so far. Just because something is allowed by regulation does not make it a good idea. Just because a regulator has not sanctioned something does not mean that it is not wrong. As but one example, think about a regulator’s enforcement power. Enforcement actions offer consequences for ethical lapses that occur, and are designed to deter others. But misconduct continues. Maybe, it is because individuals are convinced their behavior is “not that bad” and simply the cost of doing business. Maybe, it is because they think they will not get caught. Maybe, they have decided that the incentives to the misconduct are strong enough to be worth the risk.³⁷ The conclusion is the same; the audit profession cannot rely on regulators to develop their professionalism for them. “Rules cannot take the place of character.”³⁸

Much of our work at the PCAOB is concerned with establishing public policy. Earlier in my remarks, I explored some of the factors that contribute to developing that policy. As I said then and I will reiterate, there is typically not a clear right or wrong answer; public policy is comprised of “the hard decisions [that] inescapably involve imponderables of intuition, prudence, and judgement.”³⁹ That is why we have to be so deliberate in our task of identifying the problem we are trying to solve and solicit as much feedback from as many stakeholders as possible. That is also why we must strive to be transparent in our reasoning and our process. Even then, I would not expect all investors, audit committee members, auditors, and other stakeholders to agree that we got it right. But, I would hope that they would agree that they were heard and their views considered.

If investors, audit committee members, and others want audit firms to change how they conduct their work, there is another obvious entity to appeal to: the audit firms themselves. Rather than asking a regulator to mandate, firms should undertake to meet the needs of those to whom they have the greater duty. Majority does not necessarily rule in this regard. If a subsection of the investor or preparer community, for example, calls for an updated type of service, it is likely that others will avail themselves as well once it is launched and they see what it can do.

At the current crossroads of auditing, I worry that the audit firms have not focused enough on articulating a strategic vision that will advance the profession. Rather than proactively leading the charge into a new age, audit firms are all too often remaining silent. When they do speak, it is to react to what others have put forward, or is limited to immediate, narrow, and specific circumstances.

In my remarks to the Accountants’ Liability Conference several months ago, I referred to this idea as a “voice”, and I called on the audit firms and the profession to rally in a commitment to take action, find solutions to improve audit quality, and protect investors.⁴⁰ I reiterate that call now. 

In the words of Winston Churchill, “To each there comes in their lifetime a special moment when they are figuratively tapped on the shoulder and offered a chance to do a very special thing, unique to them and their talents.”⁴¹ The creative and critical thinkers employed by audit firms are well placed to lead the charge into an uncertain future. My hope is that they do great things.

Conclusion

As I conclude, I want to summarize this morning’s remarks into three main takeaways:

• First, the academic community plays a key role in informing and guiding the PCAOB and others in the financial reporting ecosystem, including through events like today’s.
• Second, the PCAOB is hard at work implementing policies that serve both investors and the profession long term.
• Third, at this crossroads confronting the audit profession, it is the audit firms and the profession who must step up to the task at hand and take initiative in identifying and voicing a path forward. In doing so, the profession will continue to demonstrate its vibrancy, resiliency, and nobility, and emphasize its profound value. Healthy audit firms support society and our way of life. I have confidence that the auditing profession will rise to the challenges and be able to meet the needs of investors in the future.

As we move into the day’s sessions in a spirit of collaboration and mutual commitment, let me conclude with a quote from Alan Greenspan, who on this day 37 years ago took office as Chairman of the Federal Reserve, which he led for two decades:

“I have found no greater satisfaction than achieving success through honest dealing and strict adherence to the view that, for you to gain, those you deal with should gain as well.”⁴²

Thank you, and I welcome your questions and comments.