Date: March 14, 2016
Speaker: James R. Doty, Chairman
Event: SEC Open Meeting on the PCAOB Budget
Good morning Chair White and Commissioners Stein and Piwowar.
I am here to present for your consideration the PCAOB's 2016 Budget of $257.7 million.
Before I go further, I would like to thank the Chief Accountant (Jim Schnurr) and his staff as well as the Commission's Chief Financial Officer (Ken Johnson) and his staff, for their support and counsel as we developed this budget.
The budget before you strengthens our ability to continue to protect investors and to build the trust that facilitates capital formation. In 2016, we will need to bring that strength:
Audits and investor protection have improved significantly, in my view.
When I joined the PCAOB as we emerged from the financial crisis, some firms were still resisting our inspection findings.
But, today, the firms generally accept our findings and work with us to uncover and address root causes.
This progress validates the benefits envisioned by the Congress when it enacted Title 1 of the Sarbanes-Oxley Act and supports continuation of the key programs we have used to achieve that progress – inspections, enforcement, standard setting, and economic and risk analysis.
Having said that, as the Commission's recent enforcement actions show, we should remain vigilant. Pressures and incentives for auditors to cut corners remain a concern and threaten to undermine our efforts and investor protection.
At the same time that we protect investors' interests in striving to achieve more reliable audits, we also need to consider how to strengthen the audit's value to stakeholders. The needs of both markets and investors change. We must advance the audit process to meet those needs.
The audit should not become a perfunctory compliance exercise but should be a living, breathing, and disciplined process that safeguards investors.
Warning signs abound.
Companies' use of unaudited and non-GAAP metrics proliferate.
In the extreme, we have seen examples where companies dismiss auditors soon after the disclosure of internal control material weakness findings, with no adverse market reaction. This leads even the profession's most outspoken advocates to question whether the pass/fail audit has become a commodity that does not matter to investors.
So, this continues to be an important time for the PCAOB. The 2016 budget is critical to addressing these challenges as well as the continuing unacceptable, high rates of noncompliance with existing standards. It also promotes continuity in following through on other important initiatives.
For example, with this budget, pending your approval, we will improve investors' ability to discern audit quality by implementing important new disclosures about engagement partners and other firms involved in an audit.
Our projects on the auditor's reporting model and the auditor's role in validating fair value measurements seek to enhance the meaningfulness and reliability of the audit for today's markets.
We will study the implication of the growth of consulting practices on auditor independence and audit quality.
We will also continue to monitor the increasing use of audit quality indicators by audit committees and others. And we'll test the most promising ones, based on comments received on our concept release last year.
The budget allows the PCAOB in a cost-effective way to continue to fulfill its Congressional mandate to promote the values that investors expect in audits: accuracy, integrity, transparency, independence, and ultimately accountability.
# # #
Now let me go deeper into how the 2016 Budget will empower us to act on behalf of investors and to promote capital formation by building market confidence in the audit.
This budget will allow us to continue to conduct the nearly 300 inspections of registered firms that we do each year. This includes 75 inspections of firms that audit broker-dealers.
We have completed the first cycle of inspections of broker-dealer audits under the Commission's amended broker-dealer rule and our new audit and attest standards. The 2016 Budget funds staffing for an important initiative to synthesize insights from these inspections and to develop proposed approaches to a permanent program for Board consideration.
This research and analysis is intended to help us appreciate the economic benefits, costs, and potential consequences of different potential approaches to the program. We are working toward issuing a proposal this year.
As for our issuer inspections, reflecting what we've learned from our inspectors and economists, we are exploring ways to introduce an element of randomization in our inspections. Being less predictable will, I believe, make our inspections even more effective. It will also facilitate more robust analysis of audit quality over time.
We will also work closely with firms whose past inspections revealed quality control problems. This will involve making more than 100 determinations on firms' efforts to remediate such concerns.
Approximately sixty of our 300 inspections will be conducted in 27 jurisdictions outside the United States. Based on bilateral protocols we have established, we will conduct many of these non-U.S. inspections jointly with our foreign counterparts.
We have the support of the European Commission to work with local authorities. Based on my meetings with European officials over the last several months I am optimistic that the EC's three-year Adequacy Decision will be renewed in 2016, and I hope for a longer period.
We are also considering appropriate courses of action to achieve access to inspect the audits of PCAOB-registered firms in China. Recent financial volatility in China underscores the importance of protecting investors in our markets. As we continue discussions with the Chinese authorities about access, we remain in close contact with your staff on this issue as we consider our options.
# # #
Our enforcement program continues to focus on holding auditors accountable for audit failures.
We have a broad range of investigations and disciplinary actions underway, including several cases involving auditors from large audit firms. We also have an active investigative docket involving non-U.S. auditors. Our budget justification reflects critical resources needed to continue this work.
We will, of course, continue to coordinate closely with the Commission's Division of Enforcement. The SEC has recently announced several significant financial reporting cases against accounting firms. I'm grateful for the recognition of our staff's contributions in those matters.
# # #
Turning to standards: In December 2015, the Board approved rules to require, for the first time, disclosure of the name of the engagement partner and other accounting firms participating in the audit. Subject to the Commission's approval of the new rules, we will work with firms throughout the year to prepare for implementation.
Our work on other significant projects also advances, in partnership with your staff.
We are developing a new standard on the lead auditor's procedures for using the work of other auditors. These procedures will be particularly important to achieving consistent quality in large, multinational audits in which significant parts of the audit are conducted by firms other than the signing firm. Working closely with your staff, we hope to be in a position to issue a proposal in the next few weeks.
We've also received public comment on a number of other important projects on our agenda, including our proposal to expand the auditor's reporting model, the auditor's use of specialists, and on auditing accounting estimates and fair value measurements.
I hope to expose a new proposal on the auditor's reporting model soon. This is a significant undertaking to enhance the value of the audit for today's investors.
I'm proud of what we have been able to accomplish in standard setting. The Board's votes have all been unanimous.
At the same time, we recognize that our standard-setting process could be more efficient. To that end, we are working closely with an outside consultant and Chief Accountant Schnurr.
Among other things, we are working on ways to enhance engagement with Board members and the SEC staff, early and often, to try to obtain and maintain support for each key decision as we work through a standards project.
The majority of the comments on our standards come from auditors and preparers, and that also affects our timeline. We are exploring ways to get additional insights from auditors because we recognize they are directly affected. But, at the end of the day we need to stand up for investors and preserve our ability to make an independent assessment in a timely manner.
Our outside consultant is now completing the design phase and commencing the implementation phase of the review. We are already integrating some new tools from the review in our active standard-setting agenda.
# # #
As we pledged last year, we are also examining economic impacts. Economic analysis needs a strong champion to take root in audit oversight and deliver the insights necessary to advance smarter regulation. The PCAOB should be that champion.
Center staff now work closely with standard-setting personnel on scoping and planning data analyses, but I want to see that work more deeply institutionalized.
Through a combination of permanent staff and academic talent, our Center for Economic Analysis has brought empirical skills and tools to many questions relevant to our work. Our economists analyze the need for and effects of potential changes in standards. They have also produced research with significant implications for our work.
While the program is still in its early days, the working papers posted so far already advance the state of understanding of the role of audit in capital markets. They also hold the promise of –
The Center has also commenced a groundbreaking post-implementation review of a standard previously adopted by the Board. This review examines the impact of our standard on engagement quality reviews, now that it has been in effect for six reporting cycles.
# # #
Let me now turn to the funds required, where I'd like to highlight a few matters. First, this 2016 Budget represents a 2.7 percent increase over the 2015 Budget but is still short of the 2014 Budget of $258.4 million.
The 2016 Budget is based on an appropriate and realistic assessment of today's competitive market for the hiring of experienced professionals. I'm glad to report that we have also successfully turned around our recruiting efforts. We project approximately 875 staff by the end of 2016, including approximately 25 new staff and a 10 percent turnover rate.
# # #
In closing, this is a time of significant change for the auditing profession. How the profession – and its regulators – respond to those changes will, in my view, shape the future of the audit.
We must look ahead to make sure the audit evolves to be as important and useful to investors in the 21st century, as it was in the 20th.
The foresight and hard work of our predecessors has given this country the strongest, deepest and fairest capital markets in the world. The audit has been a critical element of our markets' success. It is our responsibility, as leaders, to ensure that audit retains and enhances that role, so that our markets can continue to deliver economic growth in our country.
This 2016 Budget request will help us constructively manage and navigate these changes in a way that protects investors' interests.
I appreciate your time and attention, and I would be happy to answer any questions you may have.