In December 2019, as part of its strategy of enhancing transparency and accessibility through proactive stakeholder engagement, the PCAOB launched an effort to engage with audit committees, conducting conversations with almost 400 audit committee chairs focused on audit committee perspectives on topics such as audit quality assessment and improvement and auditor communications. (See this PubCo post.) As noted by PCAOB Chair William Duhnke in this PCAOB webinar for audit committees, the PCAOB prioritized this engagement, viewing informed and engaged audit committees as "force multipliers." The PCAOB continued this outreach to audit committee chairs during 2020, contacting the audit committee chairs of most of the U.S. public companies that had audits inspected by the PCAOB during 2020. The PCAOB spoke with almost 300 audit committee chairs and discussed the results in this new report. The discussions involved Covid-19, communications by the auditor with the audit committee, new auditing and accounting standards and emerging technologies. As part of their discussions with the PCAOB, the chairs identified a number of practices in connection with each topic that they viewed as particularly effective—advice that could be useful to other audit committees.
In these engagements, the PCAOB has sought to expand its reach. About 75% of the audit committee chairs with whom the PCAOB spoke in 2020 had not previously been directly engaged by the PCAOB. If the public company was not audited by a Big Four accounting firms, this percentage was 90%.
COVID-19. The PCAOB has previously reported on its discussions with audit committee chairs regarding the unprecedented challenges created by COVID-19 and its effect on the chairs' oversight of financial reporting and the audit. The responses regarding the impact of the pandemic varied widely, depending on the industry and company. The chairs identified a number of new or increased risks, including cybersecurity, employee safety and mental health, going concern, accounting estimates, impairments, international operations and accounting implications of the CARES Act. The PCAOB's report summarized two of the common themes the PCAOB regularly heard from audit committee chairs across industries—remote work and increased auditor communications—and highlights some of the helpful questions and considerations that the chairs identified. (See this PubCo post.)
Communications by auditors with the audit committee. Communications with auditors were viewed to be important, and most audit committee chairs considered their auditors' communications to be "thorough, timely, and at the right level of detail and frequency." The chairs were pleased with their auditors' performance in assigning experts, consulting their national offices, offering practical approaches and providing continuity. Chairs' criticisms of their auditors centered on managing global audit operations, helping juniors, independence communications, guidance regarding controls for third-party vendors, over-auditing and over-documentation and visibility into fee changes. Many chairs told the PCAOB that they regularly assess the performance of their auditors, particularly the lead engagement partner and the engagement team's communications and timeliness. This assessment occurs annually and also, in many cases, quarterly or in real time as the need arises. The chairs identified as effective practices: for communication with auditors:
- requests to the auditors for "constructive feedback or tangible recommendations on areas where the company's internal audit team or financial reporting systems could improve";
- requests for training or resources for new audit committee members or a newly appointed chair;
- regular assessments of engagement team performance;
- review of the PCAOB inspection report with the audit committee and discussion of initiatives to address deficiencies; and
- review of year-over-year PCAOB inspection report trends within and among audit firms.
New accounting and auditing standards. During the period, audit committee chairs oversaw implementation of several challenging and time-consuming new accounting standards related to revenue recognition, lease accounting and current expected credit losses (CECL). Implementation of critical audit matters (CAMs) was, in contrast, relatively smooth, largely as a result of dry runs and other early preparation. The PCAOB is studying the economic impact of the CAM requirements.
Changes related to CAMs became applicable to audits of large accelerated filers beginning with the June 30, 2019 fiscal years and will apply to audits of all other companies to which the requirements apply for fiscal years ending on or after December 15, 2020. (See this PubCo post.) As a first step in analyzing the impact of CAM implementation before the requirement became more broadly applicable, the PCAOB undertook an interim analysis of the effect on key stakeholders in the audit process. When the new standard was proposed, there were a number of concerns expressed—that CAMs might result in disclosure of nonpublic information, that CAMs could lead to some discomfort at companies or disputes with auditors, that they would involve considerable cost, that they might have a chilling effect on auditor communications, that they might simply be boilerplate, or that they might provide roadmaps to baseless litigation. Acknowledging the risks involved, then-SEC Chair Jay Clayton had framed the challenge this way, urging all involved in implementation to pay close attention to these issues going forward: "I would be disappointed if the new audit reporting standard, which has the potential to provide investors with meaningful incremental information, instead resulted in frivolous litigation costs, defensive, lawyer-driven auditor communications, or antagonistic auditor-audit committee relationships—with Main Street investors ending up in a worse position than they were before."
But did those risks and benefits emerge? According to the report, not so much. At that point, at least, CAMs didn't seem to have had much impact at all. Notably, the PCAOB reported that concerns expressed during the rulemaking process, such as the potential for chilling of communications with auditors or disclosure by the auditor of nonpublic information, "do not appear to have manifested in practice." According to the PCAOB, no chairs reported "chilling," no interviewees reported disclosure of nonpublic information, no preparers reported making significant changes to company disclosures because of CAMs (and they did compare them to auditor's draft CAMs) and none indicated CAMs drove significant changes to company financial reporting processes or controls. None of the interviewees had heard from investors regarding CAMs, but some indicated that "CAMs contain valuable information for investors." Almost all preparers reported that costs associated with CAM implementation, such as management time or increased audit fees, "were inconsequential." (See this PubCo post.)
Apparently, CAMs had also not made much of an impression on investors, if they've even seen one that is. As the PCAOB described it, investor "awareness regarding CAMs is still developing." While 63% of respondent investors "had heard of CAMs," only 31% had even seen a CAM in an audit report. For those investors who had seen them, they reported using them to "better understand the work of the auditor, better understand financial statement disclosures, and develop questions for company management."
The PCAOB noted that its new requirements regarding accounting estimates, including fair value measurements, and use of the work of specialists is effective for audits of fiscal years ending on or after December 15, 2020. However, less than 25% of chairs had discussed the new requirements in detail with their auditors.
Audit committee chairs identified as effective practices regarding new accounting and auditing standards:
- "When reviewing the audit plan, asking the auditors if there will be any significant changes to their audit approach for the year in light of new or revised accounting or auditing standards.
- Asking the auditors to provide the audit committee early notice and frequent updates when new standards are being implemented.
- Setting aside time for educational sessions or deep dives where auditors can explain and answer questions about how new audit requirements may impact the audit.
- Requesting that auditors communicate their approach to auditing the implementation of new accounting standards (that are coordinated with management's timelines) and implementation of new auditing standards.
- Discussing with the auditors whether they assessed any possible challenges or issues associated with auditing the implementation of new accounting standards or applying new auditing standards and, if so, how the auditors plan to address them."
Emerging technology. Many audit committee chairs cited potential benefits from the use of emerging technologies, such as data analytics, workflow automation, cloud computing and other tools. These potential benefits included reduction of manual work, obtaining better evidence, greater efficiency, reduction of opportunities for manipulation or falsification and easier identification of anomalies. However, emerging technologies also presented many challenges, such as the gap between the technological capabilities of the company and those of the audit firm, which made it more difficult to realize the benefits of emerging technologies. In addition, emerging technologies brought several worrisome risks, such as cybersecurity (especially given the increase in remote work) and overreliance on technology, which could result in "less attention to or emphasis on preparer and auditor judgment, experience, or professional skepticism." Other concerns related to controls, specifically maintaining and adjusting robust controls, auditor evaluation and testing of changes to new controls, and audit firm controls over its own technology. Finally, chairs expressed concerns about unknown risks associated with new technologies that may "take longer to become apparent or to understand."
The chairs identified as effective practices in connection with emerging technologies:
- regular discussions with auditors about the challenges, risks and opportunities of emerging technologies;
- asking how technology will affect allocation of auditor time and resources;
- discussions with management about changes to controls related to implementation of new technology and discussions with auditors about evaluation and testing of those new controls;
- deep dives on emerging technologies, new technology tools used in the audit and cybersecurity;
- asking the auditor to identify industry best practices or benchmarks for the use of technology and/or information security;
- discussions about the use of third-party software or data processing for financial reporting processes and associated risks and controls; and
- discussions with the auditor of expertise or tools related to emerging technology, data protection or cybersecurity as a supplement to management's existing expertise or tools.
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