The talks were civil, for the most part, but a major public discussion about auditor rotation held by the Public Company Accounting Oversight Board in late March left no doubt that feelings on the subject run high.
The board heard two days of testimony from a series of high-profile stakeholders and auditing experts on the pros and cons of requiring companies to rotate their auditing firms on a regular basis. The testimony came in response to a concept release that the PCAOB proposed last August.
"Many people are troubled by reports of audits that span decades, even a century," said PCAOB Chairman James Doty on the first day of the meetings. "These are the engagements that no partner wants to be the one to lose. At the same time, we should be concerned about the relatively new audit that the auditor may hope to turn into a long-term engagement."
On the first day of the two-day hearing, the PCAOB heard from former Federal Reserve Chairman Paul Volcker, who came out in favor of mandatory rotation. "It does seem to me that regular audits should not become a sort of long-term annuity for the accounting firm paid for by the company being audited, rather than being responsive ... to the investing public," he said.
Former SEC Chairman Arthur Levitt noted that most auditing work today is done by staff members who rotate from firm to firm. "The real continuity is by the partners who oversee the work," he said. "The argument about institutional memory seems to me misplaced."
Former SEC Chairman Richard Breeden said that he did not have a specific yes or no answer, but noted that the level of concentration of audit firms limits the practical choices of audit committees, and means that rotation now would be much more difficult than it might have been 20 years ago.
AUDIT FIRM CHIEFS TESTIFY
The PCAOB also heard from the heads of the Big Four and other major auditing firms. While they by and large opposed mandatory auditor rotation, they did acknowledge the issues it is meant to address, and in some cases offered alternative suggestions.
"Audit firm tenure over a period of many decades can create the perception of impaired objectivity, and, in some instances, increase the risk of a reduced level of auditor objectivity," said Grant Thornton CEO Stephen Chipman. "In circumstances of extreme tenure, mandatory audit firm rotation could be a component of a potential solution to this perceived loss of auditor objectivity."
"The current system is sound," said Deloitte LLP CEO Joe Echevarria. "It could be improved, but it's the best system in the world." He noted that in Deloitte's comment letter, the firm included over a dozen ideas aimed at building up the strength and effectiveness of audit committees and otherwise boosting auditor independence.
Stephen R. Howe, Americas managing partner at Ernst & Young LLP, recommended empowering the PCAOB to recommend firm rotation to an audit committee in situations where it has been demonstrated through the PCAOB's enforcement process that objectivity was significantly lacking.
KPMG LLP chairman and CEO John B. Veihmeyer warned, "A constant stream of retendering would likely create a potentially adverse increased sales culture at the audit firms. Mandatory audit firm rotation would increase those forces and could decrease a skeptical mindset."
The heads of several other auditing firms, who testified on the second day of the discussion, generally did not favor mandatory rotation, either.
McGladrey & Pullen managing partner and CEO Joe Adams acknowledged that firms must "continue to do more to remain vigilant," but added that the firm is concerned that mandatory rotation would eliminate competition and weaken audit committees. Adams suggested several other improvements that had been implemented at McGladrey, such as establishing an independent SEC client commission to ensure that those engagements are staffed by subject matter experts. The firm has also established a quality control committee and a partner compensation system that emphasizes a longer-term view and gives recognition to audit quality.
Crowe Horwath CEO Charles M. Allen discussed a process in place at the firm that includes an extra level of review at the national level of all draft financial statements, filings with the SEC or other regulators, and documentation, looking for potential sources of significant accounting or auditing errors. He noted that Crowe's partner compensation model is also designed to bolster independence.
EisnerAmper CEO Charles Weinstein suggested mandatory audit firm tenure as an alternative to mandatory rotation. "During this time, a company could only dismiss the auditor for cause, which would have to be approved by the SEC. This would serve to free the auditor from management pressures without the costs and unintended consequences of mandatory rotation," he said.
Weinstein and the other firm heads were joined on the panel by Cindy Fornelli, executive director of the Center for Audit Quality, who suggested that audit committees might be empowered to select the lead engagement partner on an audit. There could also be an annual assessment of the auditing firm and the lead audit partner, she suggested.
CORPORATE PERSPECTIVE
Witnesses from the corporate side were mixed in their opinions.
Theodore Bunting, senior vice president and chief accounting officer at the energy company Entergy, noted in his testimony that the utility industry is complex and requires expert auditors. "These complexities can require significant time to comprehend," he said. "Mandatory change in audit firms would result in disruption to our business and loss of auditor knowledge."
Valarie L. Sheppard, senior vice president and comptroller at consumer products giant Procter & Gamble, cited a Government Accountability Office estimate that initial audit fees would go up about 20 percent after a company changed audit firms. "We believe this estimate is rather low," she said.
On the other hand, John H. Biggs, former chairman and CEO of insurance provider TIAA-CREF, contended that his company has an auditor rotation cycle that has worked excellently. He disagreed with the GAO assessment that there would be a 20 percent increase in fees the first year, and put the figure at closer to 2 percent.
THE CHAMBER WEIGHS IN
Some fireworks erupted late on the second day when David Hirschmann, a senior vice president at the U.S. Chamber of Commerce, and president and CEO of the Center for Capital Markets Competitiveness, appeared. He was asked by Chairman Doty about a letter that had come "over the transom" the previous day from the chamber accusing the PCAOB of "mission creep" and requesting that the board withdraw its concept release on mandatory audit firm rotation.
Doty asked Hirschmann if he understood the process behind concept releases and that the meeting was intended as a way to get feedback from outside parties such as the chamber. He asked Hirschmann, "You want us to say we stopped the concept release because the chamber asked us to?"
In the letter, the chamber wrote, "The chamber [is] concerned that the PCAOB is engaged in mission creep, crossing the threshold of audit regulation into an attempt to regulate corporate governance."
Hirschmann stood by the letter, and said, "What we recommend you do, respectfully, is that you step back from just looking at mandatory rotation."
CONGRESS RESPONDS
In wrapping up the two-day meeting, PCAOB Chairman Doty noted that it would take a while to assemble all of the information and suggestions from the panelists and their organizations. He said that he expects the broader discussion to continue into 2013, and that the board plans to conduct further meetings around the country to elicit feedback on the proposal - some of which may have come a little sooner than expected.
Members of the House Capital Markets and Government Sponsored Enterprises Subcommittee held hearings just a week later, on March 28, and gave the board something of a dressing-down on auditor rotation. "I think it is important to remind the PCAOB that it is not a policy-making entity; Congress and this committee are the policy-makers," said Rep. Scott Garrett, R-N.J., who chairs the subcommittee. "The PCAOB's job is to regulate and oversee the auditing profession. I am very concerned about some of the recent activist proposals put forth by the PCAOB."
Doty defended the PCAOB's efforts at the hearing. "The board, of course, has not proposed mandatory audit firm rotation," he said in his opening statement. "Rather ... the PCAOB is engaged in a deep and wide-ranging public dialogue about ways to enhance the independence, objectivity and professional skepticism of public company auditors."
One of the members of the subcommittee, Rep. Michael Fitzpatrick, R-Pa., introduced legislation that would amend the Sarbanes-Oxley Act to prohibit the PCAOB from requiring public companies to use specific auditors or require the use of different auditors on a rotating basis.
