Update on Some Standard-Setting Projects

Good morning and welcome to the Forum on Auditing in the Small Business Environment. Before I go further, I should tell you that the views I express today are my own and do not necessarily reflect those of the Board or the PCAOB as a whole.

One of the goals of this small business forum is to share some insights about problems, developments, and how best to audit in the area of fair value and estimates. We are presenting a case study, discussion and an SEC expert to discuss this area.

We at the PCAOB see issues in this area of the audit and it is commonly included in our inspection reports. You may be aware that in August 2014, the PCAOB issued a staff consultation paper discussing the staff's thoughts about how to revise existing guidance in the area of auditing accounting estimates and fair value measurements.

Overall the Board is considering issuing a new standard that further aligns with the Board's risk assessment standards, and establishes audit requirements tailored to the use of third parties in developing accounting estimates and fair value measurements, and in doing so, the Board is considering creating a single standard to promote greater consistency and effectiveness in application.

There are three major points that we plan to focus upcoming discussions around. The first is the use of a third-party pricing source. The second is addressing significant measurement uncertainty and the third is emphasizing professional skepticism.

Third-Party Pricing Specialists

The staff is exploring numerous ways of addressing the use of pricing specialists both by auditors and by management. The ideas include dealing with this in a separate standard on specialists, making revisions to AS 12, and including some different requirements for different types of pricing information.

Measurement Uncertainty

When significant measurement uncertainty exists, the staff is considering amending AS 12 to include factors that may be relevant to evaluating the extent of measurement uncertainty in accounting estimates as discussed in the staff consultation paper or including a requirement to evaluate how management considered alternative assumptions or outcomes (similar to paragraph 15a and 16 of ISA 540) for significant risk. Other alternatives to addressing significant measurement uncertainty might include a requirement to ensure that the auditor's communications to the audit committee include a discussion of significant measurement uncertainty.

Professional Skepticism

In the area of professional skepticism, the staff is considering an explicit requirement for the auditor to identify which of the assumptions used by management are significant when testing management's process; revising terminology referring to as "corroborating" management's estimate; and including reminders in a new standard about the auditor's existing responsibility to exercise professional skepticism.

Summary on Importance of Fair Value and Estimates in the Audit

These are very complex standards in complex areas of the audit and we value your feedback on these issues, and on other issues related to the proposal as we move forward. We are particularly interested in the potential need for changes to the Board's existing auditing standards to better address changes in the financial reporting frameworks related to accounting estimates and fair value measurements, and we are interested in your experience as to how current audit practices have evolved to address issues relating to auditing accounting estimates and fair value measurements.

Global Findings

Today's sessions will focus on audit work performed under existing standards. The difficulties in this area are global and not confined to the United States. I recently completed a two-year term as chair of IFIAR, the International Forum of Independent Audit Regulators. IFIAR does an annual inspection survey with responses from approximately 30 countries, and in this survey of the inspection findings of regulators around the world, we learned that fair value and estimates is an area where regulators are finding high levels of deficiencies in audit work around the globe, not only in the United States. To the extent that you are working with other auditors outside the US, this is an area of the audit that merits special attention.

Internal Controls

Another area we see that needs improvement in both the IFIAR survey and in the PCAOB's US and foreign inspections is the area of internal control over financial reporting. I want to start by pointing out that Sarbanes-Oxley imposed new requirements for the internal control over financial reporting, and that PCAOB's current rule, AS 5, has been effective for audits of issuers starting in the end of November 2007. Even though this standard has now been in force for over seven years, we hear reports that audit firms are telling audit committees that additional work is required in this area because of new PCAOB requirements. This is troubling because there are no new requirements. And it indicates to us that there is a need for some additional education about the existing requirements. Further, there is a need to educate audit committees about the importance of internal control over financial reporting.

PCAOB recently issued a new type of document called the "Audit Committee Dialogue" and you may find it helpful to encourage your clients to review this document to gain a better understanding of this area of the audit. I support the PCAOB's efforts to raise audit quality not only by publishing inspection reports, but also by doing outreach in sessions like this one today with audit professionals and by communicating and interacting with audit committees and financial statement users to reinforce the importance of high quality audit work.