PCAOB Standards Update1
By Gary Holstrum, Thomas Ray, and Gregory Scates**
(Prepared for The Auditor’s Report—Summer 2007)
This update addresses selected PCAOB standards-setting developments since the Spring 2007 Update that are likely to be of interest to accounting and auditing researchers, educators, and students. These developments include a report on the second-year implementation of Auditing Standard No. 2 (AS2), comments received on a proposed new auditing standard on internal control to replace AS2, a proposed new auditing standard and amendments related to consistency and the GAAP hierarchy, a concept release and Staff Q&As on independence and tax services, the 2007 PCAOB Symposium, and updated status of the Auditing Section’s PCAOB Research Synthesis Program.
PCAOB Report on the Second-Year Implementation of AS2
On April 18 the PCAOB released a report, based primarily on findings from 2006 PCAOB inspections, on the second year of audits of internal control under AS2. The second year of internal control audits occurred after the issuance of a Board policy statement and accompanying staff Q&As (on May 16, 2005) that provided guidance on implementing AS2 by integrating the audit of financial statements and internal control, using a top-down approach, using the work of others, properly assessing risk, and adjusting audit work in response to the level of assessed risk. The 2006 inspections revealed progress in improving the efficiency of internal control audits and in integrating the audit of financial statements and internal control. Compared with first-year audits of internal control, inspectors also observed more instances in which auditors used a top-down approach, focused testing on relevant company-level controls, and made greater use of the work of others. Notwithstanding the improvements noted in the second year, the Board noted that some auditors did not fully utilize the principles of the May 16, 2005 guidance. The Board identified ways in which auditors could further improve the effectiveness and efficiency of their integrated audits of internal control and financial statements. The Board considered these findings when it proposed a new auditing standard that would replace AS2.
Comments on Proposed New Internal Control Audit Standard to Replace AS2
In response to PCAOB proposals (issued December 19, 2006) for a new internal control audit standard to replace AS2 and a new standard on using the work of others, the Board received over 170 comment letters, totaling more than 1200 pages, from a variety of respondents. All of the comment letters are available at the PCAOB Web site under Rulemaking Docket 021. The Board and staff have reviewed the comment letters, as well as input provided by its Standing Advisory Group (see the February 22 SAG meeting briefing paper), and is considering what changes in the proposed standard may be appropriate.
Proposed New Standard and Amendments Relating to Consistency and the GAAP Hierarchy
On April 3, the Board proposed an auditing standard and related amendments to the interim standards (with a comment deadline of May 18) that would update and clarify the auditors’ responsibilities with respect to evaluating and reporting on matters relating to the consistency of the financial statements. These updates and clarifications also would enhance auditor reporting on accounting changes and corrections of misstatements by more clearly distinguishing between these events. The proposed amended standard on consistency is in response to the FASB’s issuance of Statement of Financial Accounting Standards No. 154, Accounting Changes and Error Corrections. The Board also proposed to remove the hierarchy of generally accepted accounting principles (GAAP) from its interim auditing standards in light of the proposal by the FASB to place the hierarchy in the accounting standards. Because the GAAP hierarchy identifies the sources of accounting principles and the framework for selecting principles to be used in preparing financial statements, these requirements are more appropriately located in the accounting standards.
Concept Release and Staff Q&As on Independence and Tax Services
On April 3, the Board issued a concept release to solicit comment regarding one part of Rule 3523, Tax Services for Persons in Financial Reporting Oversight Roles, and the PCAOB Staff issued Q&As on ethics and independence rules concerning independence, tax services, and contingent fees.
2007 PCAOB Symposium and the Auditing Section’s PCAOB Research Synthesis Program
The 2007 PCAOB Symposium (on April 19-20) explored areas of mutual interest between the PCAOB and the academic community and focused on research and education issues related to the mission of the PCAOB. A major part of the Symposium program concerned ways that the work of the Auditing Section’s ten PCAOB Research Synthesis Teams could potentially be used in PCAOB standards-setting projects, in developing fraud (and earnings manipulation) prediction models for potential use in PCAOB inspections, and in cost-effectiveness assessments. The table [click here] describes the status of each of the ten research synthesis projects and includes hyperlinks to executive summaries of the reports of each of the nine original research synthesis teams. The Symposium also included discussion of the competence demands for future auditors of public companies and the implications for auditing education, continuing professional development, and registered firm quality control.
**Gary Holstrum is a consultant in the PCAOB Office of Chief Auditor (formerly PCAOB Associate Chief Auditor and Director of Research).Thomas Ray is PCAOB Chief Auditor and Director of Professional Standards.Gregory Scates is PCAOB Associate Chief Auditor.
1 Note the hyperlinks to the PCAOB Web site (www.pcaobus.org) and to the Auditing Section Web site. A convenient history of PCAOB standards-setting activity and related briefing papers are available through the hyperlinked previous PCAOB Standards-Setting Update articles in the Spring 2007, Spring 2005, Summer 2005, Fall 2005, Spring 2006, Summer 2006, and Fall 2006 issues of The Auditor's Report. The views expressed in this article are those of the authors and not necessarily those of the Board, individual Board members, or other PCAOB staff. Responses to the article or related research may be emailed to holstrumg@pcaobus.org.
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