Statement on the PCAOB 2018 Budget and Related Strategic Plan

Date Nov. 16, 2017
Speaker Steven B. Harris, Board Member
Event PCAOB Open Board Meeting
Location Washington

Thank you, Mr. Chairman. I support the Board's 2018 Budget and its 2017-2021 Strategic Plan.

The Budget of $259.9 million represents an $8.6 million reduction from the 2017 budget. The reduction reflects careful consideration by the Board and division and office leaders about how to use our resources in a fiscally responsible manner with no negative effect on the PCAOB's ability to carry out its mission in 2018.

Notably, the Budget before us is designed to allow the Board to fulfill its mission in 2018 with fewer resources than in 2017. A significant portion – a net of approximately $3.5 million – of the reduction was accomplished by decreasing headcount to 842 in 2018. This is based on a reconsideration of the mix of staff needed throughout the organization, which resulted in the elimination of certain vacant positions and combining roles, where possible.

In addition, the Budget reflects reduced spending in the following categories as a result of various efficiencies identified over the course of the year: Travel – $1.9 million reduction; Training – $1.6 million reduction; Administrative Expenses – $1.0 million reduction; Facilities – $0.6 million reduction; and Recruitment – $0.3 million.

Separately, this Budget reflects the Board's commitment to safeguarding the security of our information technology in light of well publicized cybersecurity attacks both in the public and private sectors. Accordingly, the budget for the Office of Information Technology has been increased by approximately $3 million to enable us to hire additional staff with specialized skills in information security.

In 2017, investors began reaping the benefits of recent Board accomplishments. For example, beginning this year, investors are able to identify the engagement partner as well as the other participants in a given audit through the Form APs filed with the Board.[1] Further, the Board's landmark initiative to improve the auditor's report was approved by the Securities and Exchange Commission last month.[2] This means that next year auditor tenure will be included in the auditor's report and beginning in 2019, the audit reports of large accelerated filers will contain valuable information about what matters auditors found the most challenging and complex during an audit.

As a result of these changes, in a span of two years investors will know more about the audits and auditors of their investments than ever. I think these are prime examples of the Board fulfilling its mission to "further the public interest in the preparation of informative, accurate, and independent audit reports," as mandated by Section 101(a) of the Sarbanes-Oxley Act.

The Budget and Strategic Plan that the Board is considering includes a number of important initiatives that investors support. These initiatives demonstrate the PCAOB's continued commitment to protecting the interests of investors.

Continued Focus on Improving Audit Quality

As outlined in the Strategic Plan, the Board remains committed to improving audit quality by holding auditors accountable to high standards of independence, objectivity, and professional skepticism, through our standards, inspections and, where necessary, disciplinary proceedings.

While many have stated that audit quality has improved as a result of PCAOB activities, it is widely acknowledged by the leadership of the major firms, investors and regulators alike that more needs to be done. Members of the PCAOB Investor Advisory Group made this point during our annual IAG meeting, which took place last month.[3]

In addition, following the release of the International Forum of Independent Audit Regulator's 2015 report on global inspection findings, the leadership of the six largest network firms agreed to work towards reducing the number of deficient audits by 25 percent by 2019.[4]

Our inspectors continue to identify an unacceptably high rate of recurring audit deficiencies in areas such as internal control testing, responding to risks of material misstatements, accounting estimates, including fair value measurements, as well as inconsistent quality of work performed by foreign affiliates of the large firms.[5] In too many instances the firms' failure to take effective remedial actions or their slow implementation of a robust root-cause analysis are contributing factors.

Our inspectors also have identified firms inadequately monitoring compliance with auditor independence rules on a domestic and global basis. Seventeen years after the passage of the SEC auditor independence rules, the PCAOB continues to identify instances in which auditors provided impermissible non-audit services or did not obtain pre-approval from the audit committee prior to performing such services.[6]

The PCAOB encourages firms to take timely and effective actions to improve audit quality. Accordingly, I support the actions outlined in the Strategic Plan that would lead to quicker remediation determinations by the PCAOB. I have maintained throughout my time at the Board that firms must be held accountable to the 12-month remediation period envisioned under Section 104(g)(2) of the Sarbanes-Oxley Act.

Need for Audit Quality Indicators

I further support the initiative included in the Strategic Plan to provide greater transparency into the audit process through the use and academic study of audit quality indicators or AQIs. At the recent Investor Advisory Group meeting, the working group on audit quality initiatives recommended that the PCAOB propose new standards requiring that firms disclose AQIs to audit committees and investors.[7] As this working group noted, other countries appear to have moved ahead of the U.S. in their efforts to measure and report on audit quality.

Audits Conducted by Foreign Registered Firms

The increase in the number of PCAOB enforcement cases involving foreign affiliates of the global network firms or their personnel confirms investors' concerns about the quality of work being performed by such firms. The number of settled orders the Board issued involving such firms or their personnel has increased from 1 each in 2014 and 2015 to 18 in 2016 and 13 so far this year. In fact, approximately 40 percent of settled PCAOB disciplinary orders in 2016 and this year have involved non-US auditors.

These recent enforcement matters involve not only audit failures but also improper alteration of documents, which suggests significant integrity issues.

As noted in the Strategic Plan, the Board intends to continue to focus on cross border audits that involve the use of other auditors. And the current investigative pipeline of the Board's Division of Enforcement reflects this continued focus. I support this focus and other initiatives outlined in the Strategic Plan, including encouraging global network firms to (1) conduct effective use of root-cause analysis of systemic issues resulting in deficiencies, and (2) commit to global firm-wide timely and effective remediation.

Need for Failure to Supervise Rule

One of the most troubling aspects of these foreign affiliate enforcement cases is the egregious behavior on the part of some senior partners, including leaders in the audit practice and, in one case, individuals serving on a firm's governance board.[8]

Investors believe that the PCAOB should hold firm leaders accountable for setting a tone at the top that tolerates such disregard for compliance with PCAOB rules and oversight on the part of partners and leaders in the audit practice. In this regard, I continue to believe the Board should adopt a Failure to Supervise standard as contemplated by Section 105(c)(6) of the Sarbanes-Oxley Act.

Interaction with International Regulators

I also support the initiatives included in the Strategic Plan that call for the PCAOB to continue to negotiate and complete, wherever possible, bilateral cooperative inspection arrangements with our international counterparts.

The 2018 Budget calls for the PCAOB to inspect approximately 61 non-U.S. firms in 29 jurisdictions. Under your leadership, Mr. Chairman, the PCAOB has reached cooperative agreements with nearly all of the European Union countries to carry out joint inspections in those countries, including an agreement with Ireland announced earlier this month.[9]

The PCAOB's continued inability to conduct inspections in China, however, remains of concern to investors and to me.[10] As the Strategic Plan notes, the Board continues to pursue a permanent program to inspect registered public accounting firms located in China or that audit China-based companies.

I also support the PCAOB's continued active involvement in IFIAR, both as a member of IFIAR's new governing Board and as a leading participant in the work streams of IFIAR's six working groups.

Emerging Audit Risks

The Strategic Plan appropriately highlights the PCAOB's efforts to focus on current issues affecting audit quality as well as emerging developments that may pose risks to audit quality. Some of the areas that I believe warrant particular attention include:

The accelerated use of data analytics, artificial intelligence, and other technology in the audit – Through the use of new technological tools, the audit is becoming more automated each year. This is a clearly transformative trend and I expect to see the profession increasingly using technologies such as robotic process automations and natural language processing in the audit.

I support the Board's initiative to examine what impact this increased use of new technology-based tools will have on audits, including how such tools affect the auditor's judgments in critical audit areas and the current, possibly outmoded, pyramid staffing model of audit engagements. The Board should also ensure that its staff has the requisite technical skills and capabilities to keep pace with a rapidly changing audit environment.

The auditor's consideration of a client's noncompliance with laws and regulations – This was discussed at the recent Investor Advisory Group meeting where specific recommendations were provided by investor representatives.[11] I encourage the Board to consider those recommendations, including in particular requiring auditors to gain an understanding of a company's whistleblower process.

Another issue that I believe warrants the attention of the Board in 2018 relates to the auditor's role with respect to companies' disclosure and presentation of non-GAAP financial measures. This topic was discussed as well during the Board's recent Investor Advisory Group meeting where members recommended that non-GAAP financial measures should be defined and that they should be included in the financial statements and audited.[12] Given the importance of non-GAAP financial measures to investors, I believe this issue should be addressed by both the Financial Accounting Standards Board and the PCAOB.

While not mentioned in the Strategic Plan, investors continue to raise concerns about the auditor's going concern evaluation and reporting, as required under Section 10A of the Securities Exchange Act of 1934. Investors believe that auditors have not met their reporting obligations dating back to the savings and loan crisis of the 1980s, the Enron and WorldCom scandals that led to passage of the Sarbanes-Oxley Act, and most recently the 2007-2008 financial crisis.

This topic has been taken up internationally and I continue to believe that the Board should strengthen its standard in this area so that investors are provided with the necessary, and some would say required, early warning prior to the next financial crisis.

The need for action is even more critical due to changes in U.S. GAAP in 2014 requiring management to disclose its going concern assessment using a threshold for "substantial doubt" that, if applied in the auditing standards, would result in even fewer going concern opinions; in other words, more clean opinions.

I also believe that one of the most important directives in the Strategic Plan is that the Board "[m]onitor and report on emerging threats to independence and develop appropriate responses" including "the PCAOB reporting on the evolution and structure of audit and non-audit services, including tax consulting services …"

I view this as especially important in light of efforts on the part of some to weaken the current independence standards which I believe should be strengthened.

Firms' Business Model

I support the Board concluding its "analysis on research and developments related to the business model of large audit firms and communicate the implications of aspects of this model on audit quality and investor protection" in a report as noted in the Strategic Plan.

As the large accounting firms continue to grow their consulting and advisory practices and expand their non-audit service offerings, investors question whether the firms are taking their eyes off audit quality in pursuit of more lucrative consulting work. Investors are also concerned about potential cross-marketing, cross-subsidization, tying and interlocking arrangements and conflicts of interest as the largest firms expand the scope of their offerings.

The Board also recognizes "the potential for catastrophic risk within the audit industry" in the Strategic Plan. One only has to glance at the latest headlines about South Africa's audit market to understand the implications such risk presents.

As part of its analysis on the firms' business model, I encourage the Board to carefully consider a number of recommendations of the Bush Administration's Treasury Department Task Force on the Audit Profession, including: (i) requiring audit firms to provide audited financial statements – something that Investor Advisory Group members supported by unanimous vote at this year's meeting – and (ii) the appointment of independent members to a firm's governing board.[13]

Economic Research and Analyses

The Board's recent work has benefited from the integration of economic research and risk assessment analyses conducted by our Office of Economics and Risk Analysis.

Of particular significance, the integration of economic research and analyses into our standard setting process has resulted in a more targeted, effective, and cost-efficient process. This is because the Board has enhanced its focus on demonstrating the need for and problem to be addressed by the contemplated standard.

I also continue to strongly support the development of an organization-wide data management strategy described in the Strategic Plan. Currently, data is siloed in particular offices at the Board. I believe this initiative will help centralize the Board's data collection and enable staff to access relevant information in a timelier manner to assist them in carrying out their responsibilities.

Diversity and Inclusion

Finally, I support the PCAOB's ongoing commitment to an inclusive and collaborative workplace culture that supports the Board's mission by promoting excellence, integrity, fairness, accountability, respect for others, and diversity and inclusion as described in the Strategic Plan.


In conclusion, I support the Budget and accompanying Strategic Plan before us this morning as they demonstrate the PCAOB's ongoing commitment to fulfilling its mission.

I join you, Mr. Chairman, and my fellow Board members, in acknowledging and thanking the staff for their incredibly hard work on the Budget and the Strategic Plan. This year was a particularly challenging one with work starting so early. I want to thank: Suzanne Kinzer, our Chief Administrative Officer, Bill Wiggins and Jim Hearn, as well as Bobbie Rose, Alfredo Azocar, and Yoss Missaghian. I also thank Phoebe Brown, our Corporate Secretary, for her work on the Strategic Plan. Finally, I want to acknowledge and thank Wes Bricker and Marc Panucci, from the SEC's Office of Chief Accountant, for their helpful assistance throughout this process

[1] See Improving the Transparency of Audits: Rules to Require Disclosure of Certain Audit Participants on a New PCAOB Form and Related Amendments to Auditing Standards, PCAOB Release No. 2015-008 (Dec. 15, 2015). See Securities Exchange Act Release 77787 (May 9, 2016) for the Securities and Exchange Commission's approval of these rules. Engagement Partner and other participants for a specific audit can be search using the AuditorSearch database on the PCAOB's website at

[2] See Securities Exchange Act Release No. 81916 (Oct. 23, 2017).

[6] See Id.

[8] See In the Matter of Deloitte Touche Tohmatsu Auditores Independentes, PCAOB Release No. 105-2016-031, (Dec. 5, 2016).

[10] See also 2017 Report to Congress of the U.S.-China Economic and Security Review Commission, (Nov. 15, 2017) ("Chinese firms' activities on U.S. capital markets also present challenges for U.S. financial regulators and investors. Chinese laws governing the protection of state secrets and national security prohibit Chinese firms from sharing their audit work reports with foreign regulators, preventing the Public Company Accounting Oversight Board (PCAOB) from inspecting certified public accounting firms in China and Hong Kong. This leaves U.S. investors exposed to potentially exploitative and fraudulent activities by Chinese firms listed in the United States. To date, the Securities and Exchange Commission and PCAOB have been unable to reach an agreement with Chinese regulators to address the inadequacies of China's disclosure practices. After a decade of negotiations with Chinese regulators, it is apparent that, absent a dramatic policy shift, Beijing is unlikely to cooperate with efforts to make Chinese firms more accountable to their U.S. investors.")

[13] See Final Report of the Advisory Committee on the Auditing Profession to the U.S. Department of the Treasury (Oct. 6, 2008), at VII:20 and 8.