The PCAOB and Audits of Smaller Broker-Dealers 

DATE April 26, 2012 
SPEAKER(S): Jeanette M. Franzel, Board Member 
EVENT: PCAOB Broker Dealer Auditing Forum 
LOCATION: Chicago, IL 

Welcome to the third PCAOB Forum on Auditing Smaller Broker-Dealers. I am Jeanette Franzel, one of the five Board members of the Public Company Accounting Oversight Board. I will be the host and moderator of today's forum.

PCAOB Auditing Forums

Since 2004, the PCAOB has been holding forums for the small business auditing community in cities across the United States, and last year, PCAOB inaugurated this series of forums on Auditing Smaller Broker Dealers. The goal of those forums is to open an avenue for discussion and dialogue with auditors of public companies and broker-dealers.

Our broker-dealer forums were initiated last year in light of the Board's new inspection and standard-setting authority over auditors of SEC-registered securities broker-dealers. The Dodd-Frank Act, passed in the summer of 2010, gave the Board this authority as Congress decided to strengthen the oversight of securities industry auditors after the stunning revelation of the Ponzi scheme operated out of Bernard L. Madoff Investment Securities.

Many auditors of broker-dealers had not previously been subject to the Board's jurisdiction. In fact, the SEC's pre-Dodd Frank decision to require broker-dealer auditor registration with PCAOB brought over 500 additional firms onto our registration rolls. As of April 10, there were 516 firms registered with the PCAOB that audit broker-dealers but do not audit issuers or play a substantial role in auditing issuers.

We are still building our base of knowledge concerning the unique features and challenges of broker-dealer auditing. Similarly, many audit firms with a broker-dealer practice are learning about the PCAOB.

These forums are designed to provide information to and seek the views of auditors of brokers and dealers. Last year, PCAOB's Forums on Auditing Smaller Broker-Dealers in Jersey City, NJ, and Huntington Beach, CA had 321 attendees. Today, we are expecting more than 100 attendees. This is the PCAOB's first Broker-Dealer Auditing Forum in 2012, with three additional forums planned during 2012 in Houston; Jersey City; and San Diego.

PCAOB Broker-Dealer Auditor Oversight Program

As you will hear, we are still designing our broker-dealer auditor oversight program. The Board's approach to this new responsibility is focused around (1) investor protection and (2) a measured approach to the diversity of the broker-dealer population while weighing risks, costs, and benefits.

The Board was created to "protect the interests of investors and further the public interest in the preparation of informative, accurate, and independent audit reports" for public companies — and now also for broker-dealers. The implementation of our new authorities will be based on what is in the best interests of investors.

Second, the Board recognizes that its broker-dealer auditor oversight program must reflect the diversity of the broker-dealer population and the wide differences in risk profiles. The Board recognizes that there is wide diversity in size of firms (based on net capital held), as well as activities. While some registered brokerage firms maintain custody of their client's securities and cash, many do not, at least in theory, have access to customer funds or securities. This diversity raises questions about whether and how, on a long-term basis, we should devote resources to inspecting the auditors of these various categories of brokers and dealers.

Congress has made the decision that investor protection requires that broker-dealer auditors be under Board oversight. But, the Board has considerable latitude to decide on matters like frequency of inspection and exemptions and exclusions. The Board is using its interim inspection program to learn more about the population of broker-dealers and their activities before developing a permanent inspection program.

The Board may ultimately conclude that the auditors of some significant categories of broker-dealers can safely be exempted from PCAOB oversight without compromising investor protection. But, those decisions, when they are made, will be based on empirical information that we gather during our interim inspection programs, our forums, and other research and outreach.

Interim Inspection Program

On June 14, 2011, the Board adopted a temporary rule that provides for an interim inspection program for firms that perform audits of the financial statements of brokers and dealers.

The interim inspection program allows the Board to assess registered public accounting firms' compliance with current laws, rules, and standards in performing audits of the financial statements of brokers and dealers. As part of this program, the Board is gathering information to help guide its decisions about the scope and elements of a permanent inspection program, including whether to differentiate between classes of brokers and dealers; whether different inspection schedules would be appropriate with respect to firms that only audit certain types of brokers and dealers; and whether to exempt any public accounting firms from inspections related to their audits of broker and dealers.

The SEC approved the temporary rule on August 18, 2011. By the end of 2011, the PCAOB had inspected eight firms and examined portions of 19 audits of brokers and dealers. During 2012, the Board anticipates inspecting over 40 firms and portions of approximately 60 audits.

The PCAOB does not expect to issue firm-specific inspection reports as part of the interim inspection program. Instead, to keep the public informed, the Board will publish annual reports describing the progress of the interim program. The first such annual progress report is expected to be issued in August 2012. The Board anticipates proposing rules governing the scope and elements of a permanent program in 2013.

After gaining valuable insight through the interim inspection program and analysis of broker-dealer characteristics, the Board will then consider whether there should be exemptions from the permanent program, including for auditors of brokers that do not receive or hold customer funds.


In addition to inspections, the other pillar of the broker-dealer auditor oversight program will be new auditing standards.

On July 12, 2011, the Board issued for public comment proposed audit and attest standards for audits of broker-dealer and issuer engagements. [1] The proposals consist of two attestation standards related to the auditor's examination of compliance reports and review of exemption reports of broker-dealers proposed by the SEC[2] as part of its amendments to the broker-dealer financial reporting rule under Securities Exchange Act of 1934 ("Exchange Act") Rule 17a-5. The proposals also include a new standard on auditing supplemental information accompanying audited financial statements that broker-dealers and issuers file with the SEC.

Unlike public company auditing, the protection that investors derive from the auditor's broker-dealer work results primarily from the auditor's association with compliance-related information outside the financial statements. The examination and review engagements that are the basis for auditor reporting on these matters provide the Commission, FINRA, and investors with independent assurance that customer assets are not exposed to misappropriation or similar risks.

The Board's proposed standards dovetail with the Commission's proposed amendments to Securities Exchange Act Rule 17a-5 and are designed to provide the level of assurance the SEC requires, but without generating unnecessary expense or complexity, especially for smaller firms. The proposed standards are also intended to recognize the diversity of the broker-dealer population. They are explicitly risk-based and structured to be scalable to brokerage firms of different types and sizes. The standards also emphasize that the financial statement audit and the work related to financial responsibility compliance should be coordinated to avoid needless duplication of effort.

Whether or not the Board's proposed standards become applicable to the audits of broker-dealers is dependent of the timing and substance of the adoption by the SEC to its proposed amendments to Rule 17a-5. In the meantime, broker-dealer audits are subject to the existing SEC rules, including the requirement to follow generally accepted auditing standards (GAAS) issued by the AICPA.

Concluding Remarks

Today we have a rich agenda, including information about the current economic trends in the Broker-Dealer landscape, current and future rules and standards applicable to Broker-Dealers and their auditors, and IT risks facing broker dealers. In addition, you will have the opportunity to ask questions and interact directly with representatives from the SEC, FINRA, and the PCAOB.

I hope you will find the day worthwhile and informative. We look forward to your comments and active participation.

Thanks for attending our forum and thank you for your attention.

* The views expressed are my own, and not necessarily those of the Public Company Accounting Oversight Board, of any other Board member, or of the Board's staff.

[1] See Proposed Standards for Attestation Engagements related to Broker and Dealer Compliance or Exemption Reports Required by the U.S. Securities and Exchange Commission and Related Amendments to PCAOB Standards, PCAOB Release No. 2011-004, PCAOB Rulemaking Docket Matter No. 35 (July 12, 2011), and Proposed Auditing Standard Auditing Supplemental Information Accompanying Audited Financial Statements and Related Amendments to PCAOB Standards, PCAOB Release No. 2011-005, PCAOB Rulemaking Docket Matter No. 36 (July 12, 2011). The comment period on the proposed standards closed on September 12, 2011.

[2] See SEC Release No. 34-64676; File No. S7-23-11 (June 15, 2011).