PCAOB spotlights broker-dealer audit problems

The Public Company Accounting Oversight Board issued a staff report Tuesday offering insights into the PCAOB's inspection program for auditors of broker-dealers and issues with professional skepticism, engagement quality reviews, and low-ball fees.

The PCAOB received authority under the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 to inspect firms that audit broker-dealers in the aftermath of the financial crisis and the Bernard Madoff scandal, in which the small firm hired to audit Madoff's firm failed to flag his multibillion-dollar Ponzi scheme.

The report indicated there are still many problems with professional skepticism in such audits. "Inspection staff continues to identify through inspections that audit and attestation engagements exhibit a lack of due care and professional skepticism," said the report. "Examples that inspection staff has seen over the years include one or more omitted or insufficient risk assessment procedures, no testing of one or more significant accounts, reliance on management inquiries without corroboration, errors and omissions from auditor reports, and not identifying departures from GAAP in broker-dealer financial statements."

The report also found that audit engagement teams often don't ask management at broker-dealers about their business operations and practices, including processes and controls, nor about any customer complaints and specific incidents that have happened, to identify questionable ethical behavior. 

"Engagement teams should maintain skepticism when performing inquiries of management," said the report. "Those inquiries should not only include broker-dealer management, but also include other individuals within the broker-dealer involved in the handling of customer transactions and related responses to complaints received. Engagement teams should inquire if those individuals have additional knowledge about fraud, alleged fraud, or suspected fraud or might be able to corroborate fraud risks identified."

Other problems covered in the report include how auditors often have an insufficient understanding of the broker-dealer industry, the lack of rigor in risk assessment and internal controls, inexperience with PCAOB standards, ineffective engagement quality reviews, overreliance on standardized audit programs, and the use of low-cost providers.

"Smaller audit firms are called upon by smaller, cost-conscious broker-dealers, since engagement fees are often lower than those proposed by the larger audit firms," said the report. "In addition, some audit firms appear to have taken on more broker-dealer clients, including those acquired from audit firms that had been previously sanctioned, than can be adequately served with the available resources."

Excluding audits performed by audit firms that audit 100 or more broker-dealers and 100 or more public companies, approximately 65% of broker-dealer audits were done for fees of less than $25,000, 34% for less than $10,000, and 10% for less than $5,000, according to the report.